Author Topic: Bond funds.....I think I'm ready....  (Read 3527 times)

mistymoney

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Bond funds.....I think I'm ready....
« on: October 30, 2020, 02:20:05 PM »
Hi All,

So - after reading more heavily into AA, I think I'm ready to add bonds at about 10% of my stache. But my reading indicates that some bond funds disappointingly follow stocks during market downturns.

Doesn't that decrease their usefulness? Then what is the point?

Are there bond funds that typically do well even if stocks decline? That would be what I would like in my AA.

Anything in particular you all would recommend for this particular purpose?

sidebar if needed: I'm thinking of 80% stocks, 10% bonds, 10% money market as my new and maybe forever AA. I've typically focused on 100% stocks since I started with 401ks. I am 54, just broke 900k in investments/savings a week or two ago for the first time :) (not looking right now thank you!) and have about 100k in a new 401k rollover from old employer (that I left there way too long in not the greatest funds.....). Now at vanguard currently in the money market account. Was thinking to put 90K into a bond fund, the rest leave in MM and then build up more money market from there in outside of retirement savings accounts.

Would 80% stocks and 20% money market be a more predictable hedge?

Just starting to wrap my head around SORR and trying to balance out aggressive with sensible.

Thank you!

Retire-Canada

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Re: Bond funds.....I think I'm ready....
« Reply #1 on: October 30, 2020, 03:20:32 PM »


I hold three bond funds. They all reacted fairly similarly to the COVID crash in March so I just grabbed one chart.

I started the year at $25.91 and the bottom of the COVID crash was $25.83 or a loss of -0.3%. That's a Canadian bond fund so I check BIV for a US bond fund and the same comparison was a loss of ~2.1%. 12 month trailing yield on the CDN bond fund was ~2.5% and the US bond fund ~2.4%.



This is a YTD chart for VTI - total US stock market. Comparing start of the year to the bottom of the crash you get $164.94 vs. $111.94 or a loss of ~32%. The CDN total stock market fund I hold was down ~34%.

Now we know the recovery was fast, but you wouldn't know that in advance. I was headed towards FIRE in a few months and saw my stocks drop like a rock while I had several years worth of spending in bonds that didn't move very much. I didn't sleep like a baby, but I didn't freak out either. So in my mind my bond allocation did its thing. It helped me stay calm and not do anything rash. I pulled the FIRE trigger in May 2020 on schedule. 

FWIW my AA is 100% equities and ~5 years in Bonds/Cash. I don't need more security than that so I won't grow my bond allocation if my portfolio grows. I also won't lower my bond allocation if my portfolio goes down. I'll just keep it static as SORR protection. My cash allocation is less than a year of spending. Right now it's at ~7 months. My AA was 100% equities until the year before I planned to FIRE when I bought my bond allocation.

FWIW2 - I look at my portfolio every quarter when I get dividends and need to invest them. A low info diet when it comes to a buy and hold index strategy is just as useful as holding some bonds/cash.
« Last Edit: October 30, 2020, 03:28:39 PM by Retire-Canada »

Financial.Velociraptor

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Re: Bond funds.....I think I'm ready....
« Reply #2 on: October 30, 2020, 06:46:24 PM »
Essentially every bond fund will "track equities" to a certain extent.  There is a myth that they are negatively correlated, widely held belief.  Bonds just have a "low" correlation with equity.  When your equity soars 100%, your bonds barely move at all.  When the market is a dumpster fire, well historically the worst drawdown for the total US bond market is just a hair over 6%. 

The returns are terrible right now with ZIRP policy but the safety and peace of mind are priceless.

Andy R

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Re: Bond funds.....I think I'm ready....
« Reply #3 on: October 31, 2020, 12:39:54 AM »
But my reading indicates that some bond funds disappointingly follow stocks during market downturns.

Doesn't that decrease their usefulness? Then what is the point?

Are there bond funds that typically do well even if stocks decline? That would be what I would like in my AA.

Anything in particular you all would recommend for this particular purpose?

High quality bonds tend to be the least correlated, so government bonds of developed countries as opposed to either corporate bonds or emerging market government bonds.

Then the question is what your purpose is exactly. If it is more specifically for a diversification benefit, then long term government bonds. If it is an attempt to juice returns a little more than cash but to mostly de-risk the portfolio, short-term government bonds make sense (or even a high interest savings account if the returns are higher, which they are for my country).

If you have no specific opinion, you could just go for intermediate-term bonds, which is common.

Although with 10% in money market, you could "average" your safe assets into the other 10% into long term bonds so that overall your defensive assets represent intermediate bonds. Although with interest rates so low, many are concerned about using long term bonds, which is a case again for just sticking with intermediate-term government bonds.

MustacheAndaHalf

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Re: Bond funds.....I think I'm ready....
« Reply #4 on: October 31, 2020, 01:18:55 AM »
Financial.Velociraptor - Is Portfolio Visualizer wrong?
https://www.portfoliovisualizer.com/asset-class-correlations

That chart shows that short term U.S. treasuries of 1-3 years are negatively correlated with the total U.S. stock market.  Back in March, U.S. equities, international equities and gold all dropped at the same time - but short-term U.S. treasuries went up.  That's some pretty strong negative correlation, both by measurement and example.  Short-term U.S. Treasuries are the least risky asset.

Certain kinds of bonds do correlate with equities: junk bonds.  Right before Hertz went bankrupt, would you loan it money?  Companies that are in trouble can't offer the usual interest rates, but rather have to offer higher rates owing to the risk the bonds will become worthless.  Junk bonds have a much higher correlation to equities, and do not belong in the safe part of your asset allocation.

mistymoney

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Re: Bond funds.....I think I'm ready....
« Reply #5 on: November 02, 2020, 02:40:19 PM »
Ok - so I wanted to get this order in today, but missed the close of market as I didn't know how to do it... :(

Anyhoo... have put in market orders for tomorrow for 25k into each of these bond funds:

VCLT   long term corp bonds
bsv   short term bonds, 63% us treasury
vgit   intermediate gov bonds

Have no idea what I'm doing here, and mixed it up a little. That leaves 15k targeted for bonds still at play, but this was scary enough for one day.

I've been doing a lot of stocks through the years, and never any bonds, but both that and having that 6 figure amount safe and in cash.....makes it harder - at least for me - to make and follow through on these decisions.

Andy R

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Re: Bond funds.....I think I'm ready....
« Reply #6 on: November 02, 2020, 05:50:38 PM »
That's very random.

For the longer term duration effect, I would stick to government bonds. The amount of risk in long term corporate bonds is very high. You can see how VCLT performed this year when it fell from $109 to $79. It fell almost as much as equities. And at the same time that equities fell. This is why I would stock to government bonds. Although if you want some corporate bonds, I would consider sticking to higher quality and on the shorter side.

Many intermediate term bond funds hold a mix of bonds including both long term and short term as well as government and high quality corporate, so you would get a pretty good diverse range from a total bond market type fund. Although looking at the page for VGIT, they actually stick entirely to intermediate term bonds. BND on the other hand has

0-1 years: 1%
1-3 years: 26%
3-5 years: 29%
5-10 years: 22%
10-20 years: 6%
20-30 years: 15%
over 30 years: 1%

There may be reasons to split out some short or long term, but unless you have a specific reason, it doesn't make sense to not just use one fund, and becomes unnecessarily complicated.

mistymoney

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Re: Bond funds.....I think I'm ready....
« Reply #7 on: November 02, 2020, 09:53:21 PM »
That's very random.


yes, it sure was!!

Quote

For the longer term duration effect, I would stick to government bonds. The amount of risk in long term corporate bonds is very high. You can see how VCLT performed this year when it fell from $109 to $79. It fell almost as much as equities. And at the same time that equities fell. This is why I would stock to government bonds. Although if you want some corporate bonds, I would consider sticking to higher quality and on the shorter side.


yes - that is exactly was I was trying to avoid! Otherwise - buy stocks, right?

Quote
Many intermediate term bond funds hold a mix of bonds including both long term and short term as well as government and high quality corporate, so you would get a pretty good diverse range from a total bond market type fund. Although looking at the page for VGIT, they actually stick entirely to intermediate term bonds. BND on the other hand has

0-1 years: 1%
1-3 years: 26%
3-5 years: 29%
5-10 years: 22%
10-20 years: 6%
20-30 years: 15%
over 30 years: 1%

There may be reasons to split out some short or long term, but unless you have a specific reason, it doesn't make sense to not just use one fund, and becomes unnecessarily complicated.

Thank you so much for your reply Andy! Maybe missing todays market was a good thing!

I have amended my order to 50% vgit and 50% BND. That will be over 75% US government bonds combined, with a bit of long and short from the BND.

Put 40k each.

Hoping this all works out......

mistymoney

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Re: Bond funds.....I think I'm ready....
« Reply #8 on: November 04, 2020, 08:03:35 AM »
LOL, I think I am going to be ok......

My bond funds are already up a bit so a lot of that anxiety of doing something new/different is dissipating.

ChpBstrd

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Re: Bond funds.....I think I'm ready....
« Reply #9 on: November 04, 2020, 12:10:07 PM »
Essentially every bond fund will "track equities" to a certain extent.  There is a myth that they are negatively correlated, widely held belief.  Bonds just have a "low" correlation with equity.  When your equity soars 100%, your bonds barely move at all.  When the market is a dumpster fire, well historically the worst drawdown for the total US bond market is just a hair over 6%. 

The returns are terrible right now with ZIRP policy but the safety and peace of mind are priceless.

Sidebar:
Any stock/bond correlation number that does not include the 1970s would seem to miss what happens to existing long-duration bonds when inflation and/or interest rates rise. Rising inflation is the scenario where both stocks and long-duration bonds go into the dumpster fire, no matter how "safe" the issuer.

vand

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Re: Bond funds.....I think I'm ready....
« Reply #10 on: November 16, 2020, 02:17:23 AM »
The relationship between bonds and stocks is bit more complicated than just a slight negative or slight positive correlation.  They go through periods were they both move in the same direction, and periods where the tend to go in opposite directions.


habanero

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Re: Bond funds.....I think I'm ready....
« Reply #11 on: November 16, 2020, 02:42:31 AM »
It is probably worth rethinking a bit the conventional wisdom regarding bonds as most of the theory around AA is written during a time when bonds actually provided yield, and even some real yield on government bonds, which is now negative all across the board. Im not saying it's wrong to hold long-term government securities, but it's important to understand the risk one takes by buying bonds with long duration - credit risk and credit spread risk if corporate bonds and rate risk for both corporate and government bonds. If, for some reason, interest were to go up and/or you get inflation those securites will be abseloutely and utterly massacered and mor the longer the maturity. There is no reason why this has to happen (higher yields / high inflation) but if it does, it will get very ugly. Yes, when you lend to uncle sam you will get your investment back at maturity, that's the zero credit risk part of the picture, but what those dollars are worth in real terms when you get them back might be a completely different story.

For the safety I would lean towards treasuries with shorter maturities as for me the risk/reward of holding long-term bonds isn't worth it. It might turn out somewhat better in the end, but it might also be a lot worse. Credit spreads are low these days, so the extra payoff you get from taking on credit risk is pretty bad.

What long-term bonds has and especially when yields get low is convexity. The value of bonds go up quicker than it goes down when interest rates move. If we take the current 30y US treasury it has a coupon of 1.625%, matures on the 15th of November 2050. It currently trades at a price of 100.06 and yields 1.62%. If yield doubles to 3.24% the price goes down to 69.16, so a drop of around 30% in value. But for an equal move the other way - yields go to zero, the price goes up to 148.74 - a gain of almost 50%.

mistymoney

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Re: Bond funds.....I think I'm ready....
« Reply #12 on: November 19, 2020, 07:24:59 PM »
It is probably worth rethinking a bit the conventional wisdom regarding bonds as most of the theory around AA is written during a time when bonds actually provided yield, and even some real yield on government bonds, which is now negative all across the board. Im not saying it's wrong to hold long-term government securities, but it's important to understand the risk one takes by buying bonds with long duration - credit risk and credit spread risk if corporate bonds and rate risk for both corporate and government bonds. If, for some reason, interest were to go up and/or you get inflation those securites will be abseloutely and utterly massacered and mor the longer the maturity. There is no reason why this has to happen (higher yields / high inflation) but if it does, it will get very ugly. Yes, when you lend to uncle sam you will get your investment back at maturity, that's the zero credit risk part of the picture, but what those dollars are worth in real terms when you get them back might be a completely different story.

For the safety I would lean towards treasuries with shorter maturities as for me the risk/reward of holding long-term bonds isn't worth it. It might turn out somewhat better in the end, but it might also be a lot worse. Credit spreads are low these days, so the extra payoff you get from taking on credit risk is pretty bad.

What long-term bonds has and especially when yields get low is convexity. The value of bonds go up quicker than it goes down when interest rates move. If we take the current 30y US treasury it has a coupon of 1.625%, matures on the 15th of November 2050. It currently trades at a price of 100.06 and yields 1.62%. If yield doubles to 3.24% the price goes down to 69.16, so a drop of around 30% in value. But for an equal move the other way - yields go to zero, the price goes up to 148.74 - a gain of almost 50%.

good point about interest rates right now and future changes. I'll have to think more on this. Maybe I jumped in too fast, doing what I think I should be doing, when maybe I should stick to what I was doing....

ice_beard

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Re: Bond funds.....I think I'm ready....
« Reply #13 on: November 22, 2020, 10:53:32 PM »
Bonds are unattractive to me and I'm not the only one.  The yields are just so miserable and in the likely event that interest rates go up (they'd have to go negative to be any lower, right?) they will get massacred.  I have read many more articles in favor of a 100/0 portfolio over the traditional 60/40 in the past twelve months. 

I'm glad I'm not close to FIRE right now because it would be a gut wrenching decision to take so much money out of equities and put it into something yielding a bit more than an online savings account.  Even junk bond yields are only like 4-5% which is way below historical norms.  The reward for that much risk just isn't really worth it.  Might as well stay in equities.  For now at least.   

joleran

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Re: Bond funds.....I think I'm ready....
« Reply #14 on: November 23, 2020, 04:40:53 AM »
Bonds are unattractive to me and I'm not the only one.  The yields are just so miserable and in the likely event that interest rates go up (they'd have to go negative to be any lower, right?) they will get massacred.  I have read many more articles in favor of a 100/0 portfolio over the traditional 60/40 in the past twelve months. 

I'm glad I'm not close to FIRE right now because it would be a gut wrenching decision to take so much money out of equities and put it into something yielding a bit more than an online savings account.  Even junk bond yields are only like 4-5% which is way below historical norms.  The reward for that much risk just isn't really worth it.  Might as well stay in equities.  For now at least.

I have been saying this and living it out in my portfolio for years now, and have admittedly been proven wrong repeatedly as the bond situation seems to grow ever more unbelievably dire.  The fun thing is that if bonds do continue to drop (and they certainly can go negative), convexity means enormous gains for safe long term treasury bond investors, much like we already saw earlier this year.  If that doesn't happen, any high yield savings account at 0.6-0.8% would probably be the better bet over bond holdings.

Everyone has searching for safe yield for 10+ years now it seems, and it has not in recent memory looked like such slim pickings as today.  Plus equities seem to be at historically high valuations which is strongly correlated with reduced performance (though there are arguments that differences in valuation methodology mitigates a lot of this - see Vanguard's fair-value CAPE). 

There's an explosion of interest in alternative investments of all shapes and sizes.  Thanks to the modern era, I can buy the perpetual rights to royalties from slightly obscure music groups from 30 years ago, have my fractional gold bars, wine, and sports cars stored in a vault sight-unseen, and engage in angel investing with extra fees to third parties, all with the click of a button or two.

habanero

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Re: Bond funds.....I think I'm ready....
« Reply #15 on: November 23, 2020, 04:56:10 AM »
As for convexity one of the best-performing assets this year has been the Austrian 2.1% bond maturing 2117 (yes, they did a 100 year bond some years ago). When Covid-fear spiked in march it shot up by 50% in value. Now it's a tad lower, but not by much. Up 40% YTD and up 125% since issued, in addition to coupons received.

When everyone thought bonds where out of steam they have put on yet another year of stellar perfomence. But the amount of juice left in them is shrinking.


mistymoney

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Re: Bond funds.....I think I'm ready....
« Reply #16 on: November 25, 2020, 12:46:50 PM »
well - I choked - and sold the bond funds I'd bought. Mainly current interest rates and never being too keen on bonds to begin with.  When younger, I never saw the use....80/20 was a frequently recommended AA for younger investors, but I thought if 80% of my investments don't pan out I'm done for anyway...

Now I see that it is only later/close to retirement that you should do some hedging against SORR, but I'm think of maybe a year's worth of expenses in MM, and/or maybe dividend stocks?

but now I have a lot out of the market, and I don't want to buy in today! So, hummmm.

joleran

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Re: Bond funds.....I think I'm ready....
« Reply #17 on: November 25, 2020, 05:16:37 PM »
well - I choked - and sold the bond funds I'd bought. Mainly current interest rates and never being too keen on bonds to begin with.  When younger, I never saw the use....80/20 was a frequently recommended AA for younger investors, but I thought if 80% of my investments don't pan out I'm done for anyway...

Now I see that it is only later/close to retirement that you should do some hedging against SORR, but I'm think of maybe a year's worth of expenses in MM, and/or maybe dividend stocks?

but now I have a lot out of the market, and I don't want to buy in today! So, hummmm.

High yield savings accounts - seriously better than bonds unless you want to roll some dice on what should be a very safe part of your portfolio.  Together with gold, bitcoin, and other commodities, that's the big part of historical portfolios given a pass by most following the prevailing advice of the last decade or so.

cincystache

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Re: Bond funds.....I think I'm ready....
« Reply #18 on: November 25, 2020, 05:38:06 PM »
You should look into I-bonds. I buy them through treasury direct. You can only purchase 10,000 per year but they offer inflation protection should we ever see higher inflation. They are also income tax deferred until you redeem them up to 30 years later, state and local tax exempt, will never return less than zero. Downside is you can't access the money for the first year and there is a 3 month interest penalty if you redeem in the first 5 years (similar to CDs). Current rate is not great but better than many online savings accounts. Just something else to consider as part of your bond strategy... I keep our emergency savings in there and it's nice to see the interest rate hold a little steadier than my "high yield" savings acct which went from over 2% interest down to 0.6% interest in a matter of months.

https://www.treasurydirect.gov/indiv/research/indepth/ibonds/res_ibonds.htm