VBTLX yield

[doneby35]

Trying to understand how bonds generate income. The yield on VBTLX is currently 2.82% according to Google. What does this mean? Is this the income that people refer to when owning bonds? Or is there more to consider? 2.82% is pretty bad compared to high yield savings accounts currently at 4%. What am I missing?

[secondcor521]

Bonds are loans.  They generate income because the entity lent to pays interest.

The 30 day SEC yield per Vanguard is 4.41% (https://investor.vanguard.com/investment-products/mutual-funds/profile/vbtlx).  I don't know where Google gets its numbers.  I've seen Google Finance stuff be simply wrong in the past, so maybe they still suffer from some issues.

VBTLX mostly lends to the US government, which is considered one of the safest loans because the US government can always raise taxes or print money to pay back the loans.  It also lends to other types of entities.

VBTLX buys higher quality (i.e. lower risk) bonds, so their rate of return will be lower than some other bond funds which lend to riskier entities.  Riskier entities (think credit cards, payday loans, risky mortgages) have the benefit of paying higher interest rates but have the problem of sometimes failing to pay back the loan.

HTH.

[doneby35]

Ah ok 4.4% seems more reasonable. So assuming $100,000 worth of bonds, you get $4,400 in interest a year?

[secondcor521]

Ah ok 4.4% seems more reasonable. So assuming $100,000 worth of bonds, you get $4,400 in interest a year?

Approximately, yes.

It's a bond fund, so it owns a collection of bonds.  VBTLX probably owns hundreds or thousands.  The interest received will vary a bit as interest rates overall fluctuate and as the bonds in the portfolio mature (reach the end of the loan term) or are sold.

Also of note is that interest from US government obligations is often state income tax free (it is in my state), so that helps a bit.  For details on this, check with your tax preparer.

[doneby35]

Ah ok 4.4% seems more reasonable. So assuming $100,000 worth of bonds, you get $4,400 in interest a year?

Approximately, yes.

It's a bond fund, so it owns a collection of bonds.  VBTLX probably owns hundreds or thousands.  The interest received will vary a bit as interest rates overall fluctuate and as the bonds in the portfolio mature (reach the end of the loan term) or are sold.

Also of note is that interest from US government obligations is often state income tax free (it is in my state), so that helps a bit.  For details on this, check with your tax preparer.

Great. That definitely helps, thank you for explaining it. Does not seem to be much more appealing than just holding cash in a high yield savings account (at least in our current times with the high interest rates that are offered) since one cannot expect price appreciation to be a big factor when holding bonds, as opposed to holding stocks.

[secondcor521]

Ah ok 4.4% seems more reasonable. So assuming $100,000 worth of bonds, you get $4,400 in interest a year?

Approximately, yes.

It's a bond fund, so it owns a collection of bonds.  VBTLX probably owns hundreds or thousands.  The interest received will vary a bit as interest rates overall fluctuate and as the bonds in the portfolio mature (reach the end of the loan term) or are sold.

Also of note is that interest from US government obligations is often state income tax free (it is in my state), so that helps a bit.  For details on this, check with your tax preparer.

Great. That definitely helps, thank you for explaining it. Does not seem to be much more appealing than just holding cash in a high yield savings account (at least in our current times with the high interest rates that are offered) since one cannot expect price appreciation to be a big factor when holding bonds, as opposed to holding stocks.

No worries.

A HYSA will have interest rate risk - if or when the Federal Reserve lowers interest rates, the bank will soon lower the HYSA interest rate.  At the same time, a fund like VBTLX (or any bond fund with intermediate or long duration) will see price appreciation because its yield will look comparatively better than it does now.

I'm not a super expert on these kinds of investments, but it does seem to me that investing in this area boils down to buying now what you think will do well in the future...without knowing what the future holds.  Predicting interest rate changes and timing is, IMHO, impossible, although there are several folks here on this board who try to do it anyway.

Since I don't think I can predict (at least not better than the Vanguard computers), I just invest in VBTLX.  Some family members who are in higher brackets invest in VWIUX due to it's tax characteristics.

[doneby35]

Yep I think I’m understanding it much better now. The only question would then be:
Since holding VBTLX is best in tax advantaged accounts such as an IRA, and price appreciation is not as big of a factor as generating interest income is, what then happens to the interest that’s generated? Can it be withdrawn before age 59.5 without paying a penalty or is it treated the same as dividends in an IRA?

[secondcor521]

Yep I think I’m understanding it much better now. The only question would then be:
Since holding VBTLX is best in tax advantaged accounts such as an IRA, and price appreciation is not as big of a factor as generating interest income is, what then happens to the interest that’s generated? Can it be withdrawn before age 59.5 without paying a penalty or is it treated the same as dividends in an IRA?

VBTLX pays out accumulated interest monthly on the last day of the month.  See:

https://investor.vanguard.com/investment-products/mutual-funds/profile/vbtlx#distributions

If you hold VBTLX in a taxable account, it gets paid out to you or reinvested depending on how you've set it up, and you'll pay income taxes on that interest.  Your brokerage will send you a 1099 in January.

If you hold VBTLX in an IRA, then like everything else inside an IRA, taxes are deferred until you withdraw money from the IRA.  There is no special distinction made for VBTLX interest income, so if you withdrew from your IRA before 59.5 then you would owe income taxes and the 10% early withdrawal penalty.  Unless, of course, you happen to qualify for an exception to the 10% penalty - see IRS Form 5329 line 2 instructions for those.

[doneby35]

Yep I think I’m understanding it much better now. The only question would then be:
Since holding VBTLX is best in tax advantaged accounts such as an IRA, and price appreciation is not as big of a factor as generating interest income is, what then happens to the interest that’s generated? Can it be withdrawn before age 59.5 without paying a penalty or is it treated the same as dividends in an IRA?

VBTLX pays out accumulated interest monthly on the last day of the month.  See:

https://investor.vanguard.com/investment-products/mutual-funds/profile/vbtlx#distributions

If you hold VBTLX in a taxable account, it gets paid out to you or reinvested depending on how you've set it up, and you'll pay income taxes on that interest.  Your brokerage will send you a 1099 in January.

If you hold VBTLX in an IRA, then like everything else inside an IRA, taxes are deferred until you withdraw money from the IRA.  There is no special distinction made for VBTLX interest income, so if you withdrew from your IRA before 59.5 then you would owe income taxes and the 10% early withdrawal penalty.  Unless, of course, you happen to qualify for an exception to the 10% penalty - see IRS Form 5329 line 2 instructions for those.

That’s what I thought. Thank you for all the help.