Why do people invest in bonds instead of high-yield savings?

[GumbyPickles]

I'm looking at bond ETFs track records and they are around 1.1% for 10-years, lower for the short term.  I'm not sure I understand the purpose of bonds.

[hodedofome]

Which bond funds are you looking at?

[themagicman]

Vanguard long term bond etf (BLV) 3.85% now. Bonds also can have capital gains...that same fund is up over 15% this year!

Also, many people like them to reduce the overall volatility of their portfolio. Many times they move opposite of stocks, they zig when stocks zag. If you would have owned bond funds in 2008 it would have help cut your losses greatly. A savings account has no volatility, which can be a good or bad thing depending on what you are looking for.

Remember the higher the expected risk, the higher the expected return. Risk is usually rewarded in the market in the long term.

[CowboyAndIndian]

People invest in bonds along with other asset types to reduce the risk/volatility.

In very simplistic terms, bonds zig when stocks zag. So if you have a portfolio with both bonds and stocks you do not have wild swings like you would have with just a stock portfolio.
This is what people hope to accomplish by asset allocation.  When you have a basket of different types of securities and the combination of them is less risky then the individual components.
There is a guy in Chicago (Markowitz) who has a Nobel prize in economics for this work (http://en.wikipedia.org/wiki/Modern_portfolio_theory).

As the old saying goes, "Do not put all your eggs in one basket". Looks like the old-timers knew what they were talking about.

[hodedofome]

The Vanguard Total Bond mutual fund has returned 4.5% CAGR for the past 10 years. The iShares 7-10yr Treasury Bond ETF (IEF) has returned 5.4% CAGR for the past 10 years. The iShares Long-Term (15-30yr) Treasury Bond ETF (TLT) has returned 7.2% CAGR for the past 10 years.

Like I said, I don't know what bond funds you're looking at, but these 3 popular funds have vastly beaten savings accounts/money market funds. Although I certainly am not going to say that the future will be exactly like the past...anything can happen.

[FarmerPete]

With interest rates all but guaranteed to raise, I feel like bonds are one of the riskiest asset classes available right now.  I can't bring myself to invest a penny in bonds.  I could maybe consider a short term bond fund, but even then, I feel like I'd be better off with a decent dividend paying stock.

[themagicman]

With interest rates all but guaranteed to raise, I feel like bonds are one of the riskiest asset classes available right now.  I can't bring myself to invest a penny in bonds.  I could maybe consider a short term bond fund, but even then, I feel like I'd be better off with a decent dividend paying stock.

It could have been argued the bond rates had no where to go but up at the beginning of the year and that vanguards longest term bond fund (EDV) should have tanked. However it is up over 30% this year. It just shows that no one ever knows that the market will do. Choose an asset allocation that is best for you and stay the course regardless of the outside factors.

[hodedofome]

It could have been argued the bond rates had no where to go but up at the beginning of the year and that vanguards longest term bond fund (EDV) should have tanked. However it is up over 30% this year. It just shows that no one ever knows that the market will do. Choose an asset allocation that is best for you and stay the course regardless of the outside factors.

+1

Japanese investors have been saying interest rates are going to rise for what, 15-20 years now? At what point do you admit you were wrong?

[Rage]

With interest rates all but guaranteed to raise, I feel like bonds are one of the riskiest asset classes available right now.  I can't bring myself to invest a penny in bonds.  I could maybe consider a short term bond fund, but even then, I feel like I'd be better off with a decent dividend paying stock.

Remember that scene in the princess bride where the Dread Pirate Roberts poisons one glass and challenges his opponent to guess which one?  His opponent is like, well you wouldn't put it in my glass that's too obvious, but if you put it in your glass, that's too obvious too, and so on...

The price of bonds is like that too.  If everyone thinks that interest rates are going to go up in the very near term, why would they wait until the interest rates go up to sell their bonds?  The wouldn't, they would sell them now before everyone else does.  And if everyone thinks that interest rates are going to go up on bonds tomorrow, why would they buy any bonds today?  They will wait until tomorrow.  So that interest rate rise that everyone expects is already priced into the bonds!  Mostly priced into them, anyway, they were certainly go down some when interest rates rise.  But it's not this obvious thing like you think, and the very fact that the whole fucking world thinks interest rates are going to go up in the next year and bonds will tank because of it ought to make us all a little suspicious.

[dividendman]

Gumby Pickles, it's important that when you're looking at bond fund returns you take into account the distributions not just the gain of the unit price - it can make a very big difference (and if you look at google finance and whatnot it's only showing you the unit price change).

[ClaycordJCA]

You also need to look at the average maturity of the bonds in the fund. If you intend to hold the bonds long-term, higher yielding bonds will replace the currently held lower yielding bonds, which should help offset reduction in principal due to rate increases.  You can also look at intermediate term instead of long-term bond funds, which can also reduce interest rate risk.