What it means
Investors need a yardstick to tell whether a bond fund manager is doing well. The Lehman Aggregate, often just called "the Agg", provided that yardstick for the broad US investment-grade bond market.
It was created by Lehman Brothers and later passed to Barclays after Lehman failed in 2008, then to Bloomberg, which is why the name has changed twice while the underlying idea has stayed the same. The index groups bonds into sectors such as US Treasuries, government-related debt, corporate bonds, and securitised debt (loans bundled together and sold as bonds, including mortgage-backed securities).
To be included a bond must be investment grade, meaning it carries a credit rating that signals a lower risk of default, and it must be fixed-rate and have at least one year left to maturity. The index is weighted by market value, so sectors that have more bonds outstanding count for more.
Its return is a blend of the interest the bonds pay (income) and the changes in their prices. If the sectors have different returns in a given month, the index return is the weighted average of the sector returns.
For a non-specialist, the practical use is as a benchmark and a reference point. A bond fund that returns 3.0% when the aggregate index returns 3.5% has lagged the market before fees, while one returning 4.0% has beaten it.
Many pension funds and advisers also use the index as the core "safe" allocation in a diversified portfolio. There are limits to what the index shows.
It does not include high-yield (lower-rated) bonds, municipal bonds or bonds issued in other currencies, so it is not a complete picture of all debt. An investor cannot buy the index directly either, but can buy funds designed to track it.
In practice
Real-world examples.
Example
A pension fund trustee in a manufacturing company asks why the fund's bond holdings earned 2.2% in a quarter. The adviser compares this to the aggregate index return of 2.5% and explains the fund lagged mainly because it held shorter-maturity bonds.
Example
A private wealth manager builds a portfolio for a retired client. She allocates 40% to a fund tracking the aggregate index as the stable core, and uses the rest for shares and other assets. The client can follow the index figures in newspapers and understand how the bond portion is doing.
Example
A university endowment's investment committee reviews its fixed income manager. The manager's three-year return is 0.4% per year above the aggregate index after fees. The committee decides to keep the mandate because the manager has outperformed without taking noticeably higher credit risk.
Formula
Calculation
Index return is the market-value-weighted average of sector returns:
Index return = (Weight of sector 1 x Return of sector 1) + (Weight of sector 2 x Return of sector 2) + ...
Worked example: suppose that in one month the index is made up of three sectors. Treasuries have a 45% weight and a return of 1.0%, corporate bonds have a 25% weight and a return of 2.0%, and mortgage-backed securities have a 30% weight and a return of 1.5%.
Treasuries contribute 0.45 x 1.0% = 0.45%. Corporate bonds contribute 0.25 x 2.0% = 0.50%. Mortgage-backed securities contribute 0.30 x 1.5% = 0.45%.
The total index return is 0.45% + 0.50% + 0.45% = 1.40% for the month. If a fund holding $2,000,000 of bonds earned 1.60% in the same month, it made $32,000 against the index-equivalent figure of $28,000, so it beat the benchmark by $4,000.Case study
Seen in the real world.
Northgate Pensions is a fictional pension scheme with $50,000,000 in bonds. For years, its trustees judged their bond manager only by whether returns were positive. A new finance director pointed out that positive returns say nothing about skill, because the whole market might have risen.
The scheme adopted the aggregate index as its benchmark and began reporting manager returns against it every quarter. In the first year the manager returned 4.1% while the index returned 4.6%, which at that size cost the scheme about $250,000 in lost return compared with a simple index fund.
The trustees opened a discussion on fees and strategy, and eventually moved half the portfolio into a low-cost index tracker. This is an illustrative story, but benchmarking against a recognised index is exactly how real schemes test whether active management is earning its fee.
Watch out
Common mistakes.
- Believing the index still bears the Lehman name. The index was renamed after Lehman Brothers collapsed and is now published as the Bloomberg US Aggregate Bond Index, although many people still use the old name.
- Treating it as a global bond measure. It covers US dollar bonds only, so it says little about European, Asian or emerging market debt.
- Assuming bonds in the index are risk-free. Investment-grade bonds can still lose value when interest rates rise, and corporate bonds in it carry some default risk.
Questions
People also ask.
Can I invest directly in the index?
No, an index is just a calculation. You can buy funds or exchange-traded funds that aim to track it, though they will lag it slightly by the amount of their fees.
Why do people still call it the Lehman Aggregate?
Habit is strong in finance, and the old name was used for decades. Older research, contracts and fund documents often still use it.
Does the index include high-yield bonds?
No. It is limited to investment-grade bonds, so high-yield and junk bonds are tracked by separate indices.
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