Any Reason for a Long Bond Fund

[emilylynn]

I didn't want to hijack another thread that touched on this subject, but I would be interested in getting a better understanding of the reasons why one might want to hold a fund like TLT. Any takers?

 

[mathjak107]

we are having this discussion in another thread right now. the long bond is as volatile as stocks sometimes moving as much as 2% in a day. TLT is a long bond fund. although the interest rate is not worth going out so long the perception of recession can drive these bonds up on those days that stocks fall by the same amount. i feel much better when the market falls 3% and my bonds
returned 2% whether im selling or not.

remember though its fear of recession that drives these bonds. more ofton than not bonds follow the same direction as stocks otherwise

 

[jIMOh]

I didn't want to hijack another thread that touched on this subject, but I would be interested in getting a better understanding of the reasons why one might want to hold a fund like TLT. Any takers?

I own T Rowe Spectrum Income. It has bonds of all maturities in it to some degree.

RPSIX

25% dividend paying stocks
75% bond, including international, emerging market, junk, corporate and treasuries.

return is in 6-8% range long term.

 

[audreyh1]

Any reason for a long bond fund?

NO

Audrey

 

[FinanceDude]

Any reason for a long bond fund?

NO

Audrey

I agree, things are goofy now. Heck, even some MMF are wondering if they're going to "break a buck" these days..........

I think a lot of folks think the fed will continue to cut rates going forward. I think the economy is slowing down little by little and they will need to keep things going.

When the fed cuts rates, bonds you own at a higher interest rate will be more valuable.

 

[Lsbcal]

Going long the only thing I'd consider are longer term TIPS. You might want to read Larry Swedroe's bond book (appendix B for TIPS). Current TIPS rates are unattractive though.

Historically nominal long bonds have not rewarded investor's for the risk. Apparently they are used by a lot of insurance companies to match their long term liabilities.

 

[emilylynn]

Forgive me for such a basic question (bonds kind of elude me), but are we not seeing a trend toward higher long-term interest rates with the recent cuts in the discount and fed funds rates? My limited understanding of what's occcurring right now is that the bond market is being driven primarily by the expectation of increasing inflation. Am I missing something here?

 

[2B]

Forgive me for such a basic question (bonds kind of elude me), but are we not seeing a trend toward higher long-term interest rates with the recent cuts in the discount and fed funds rates? My limited understanding of what's occcurring right now is that the bond market is being driven primarily by the expectation of increasing inflation. Am I missing something here?

I agree with you that the long bonds are being driven by the perception of higher inflation. The Fed only cuts the shortest of short term rates and then only to the highest quality of borrowers. Between the two extremes we get the "yield curve."

For a couple of years the curve had been inverted. You actually got a better interest rate by buying short term debt. Long treasury rates were sometimes a full percent below the 6 month bills. Here, the bond market was pricing in a recession presumably to be caused by the high Fed Funds rate.

 

[mathjak107]

last week saw a big drop in longer rates actually hitting 4% even on thursday before bouncing up. these longer term bond funds are considered a flight to quality on most of those big drops we had that were slow down or recession based. . the bonds are their to cusion the drops and dont forget these will be like gold if the perception of recession surfaces even stronger.

for income stay short but for some recession protection you need longer term. dont forget the markets are driven by perception. we dont actually have to have a recession, just the perception of one

2% on TLT is a normal reactionary move and can move almost as much as stocks in a day. ytd is about 9%

 

[Hamlet]

I can't imagine being willing to buy a long-term bond at 4%. With oil at 90/barrel, and inflation finally starting to rear its head again, I suspect that 4% interest will probably be a negative real return over the next ten years.

The Fed is cutting rates when they should be raising them, IMO. We are running a huge risk of reliving the 70s stagflation nightmare.

last week saw a big drop in longer rates actually hitting 4% even on thursday before bouncing up. these longer term bond funds are considered a flight to quality on most of those big drops we had that were slow down or recession based. . the bonds are their to cusion the drops and dont forget these will be like gold if the perception of recession surfaces even stronger.

for income stay short but for some recession protection you need longer term. dont forget the markets are driven by perception. we dont actually have to have a recession, just the perception of one

2% on TLT is a normal reactionary move and can move almost as much as stocks in a day. ytd is about 9%

 

[mathjak107]

well thats why its prudent to cover all the bases. 90 oil and no raises spells slow down and recession as well as possible inflation. its really a crap shoot how we end up. the 4% isnt what the longer bonds are about. the bond fund could jump 10-20% with a recession protecting your equity positions somewhat. after the run up rebalance and buy more equities.


point is hese move fast and furious and by the time there appears to be a clear path to recession its to late you missed it at that point. you need to be in early and wait. its like insurance

 

[Lsbcal]

Forgive me for such a basic question (bonds kind of elude me), but are we not seeing a trend toward higher long-term interest rates with the recent cuts in the discount and fed funds rates? My limited understanding of what's occcurring right now is that the bond market is being driven primarily by the expectation of increasing inflation. Am I missing something here?

You can get the markets estimate of future inflation by comparing nominal Treasury bonds to TIPS. The difference in them is equal to the expected inflation (with a minor caveat that there is a modest inflation protection premium which may be from 0.25 to 0.0%). An example from Bloomberg.com for the 5yr estimated inflation rate:

5yr Treasury - 5yr TIPS = 3.58 - 1.27 = 2.31% inflation

Of course, this is the markets' best guess which is an ongoing process.

 

[haha]

I think that the price discovery function of the Treasury bond market is quite over-rated. Many players are motivated by factors other than profit. China and some other foreign governments are engaging in vendor financing and foreign exchange manipulation. At the same time many buy side domestic institutions are merely balancing nominal long term payment liabilities such as non-COLA pensions, insurance policies, etc. with similarly nominal assets of similar duration.

Individuals who buy a 10 year bond at 4% are merely speculating on interest rates. For them, it's a game of Hot Potato. Who here would buy a 10 year-non-cancellable CD at 4%?

Ha

 

[mathjak107]

i agree with you, i wouldnt want to own a 10 year or even 5 year bond at 4% long term. but aaahhh the wonderful profits ive been making on lt lately. buying every time it drops 2-3% and selling everytime they soar on the drops of the recession fears . . i must have traded it 6 or 7x already this year. one thing with these volatile long term bond funds like all sector funds its timing the market not time in the market.


at higher rates they may be a buy and hold but for now they are just a trading vehicle to match to the inflation/ recession cycle we keep going thru every week.


i kind of do like shy right now the 1-3 year treasury etf. that i hold.

 

[haha]

at higher rates they may be a buy and hold but for now they are just a trading vehicle to match to the inflation/ recession cycle we keep going thru every week.

I see. I think I missed that in your earlier post.

Ha

 

[Ed_The_Gypsy]

In other words, it is another vehicle for capital gains if interest rates drop. Not my game.

 

[mathjak107]

it can be a trading vehicle or it can be kind of an insurance on the rest of your portfolio if you choose to hold it and recession hits.

short term bond funds dont have enough movement to protect an equity portfolio in a downturn. remember you dont insure your house only when it looks like a fire is more eminant from a drought.

when it comes to protecting ones assets and purchasing power in retirement it can be alot different than when looking to squeak out every bit of return. while stocks can respond very well to growth, and gold and commodities to hyper inflation the only thing to give rise in a recession with any kind of ooomph are long term treasuries or even better zero coupon treasuries. while each asset class can only go to zero if any economic event drove us down even 1/2 that, the other classes if it contains enough volatility can double or triple in value easly protecting your portfolio value.

so can a money market or short term bond fund give you higher income? sure they can. can they provide enough ooomph to cushion a 60/40 or 50/50 mix on the way down? nooooooooooooo they cant so its a choice you have to think about since at this point we teeter totter daily between recession fears and inflation fears.

actually a 25% in each class , money markets ,long term treasuries, equities , commodities may not be a bad idea the way things look. at least until theres a clear direction to some economic scenerio when a more traditional mix of 60/40 or 50/50 would be better. just my best guess although its not something i may actually do at this point. just hope im not sorry i didnt do it

for every 1 point drop in rates heres a ball park on what you can expect from treasuries in rise in value

short term bonds 2-3%

intermediate 5%

long term 10%

zero coupon 30%

 

[emilylynn]

Great discussion. Mathjak, the 25/25/25/25 allocation sounds a lot like the Harry Browne formula. That's interesting to me, because his little treatise is probably the one thing that has guided my investment philosophy more than anything else. It's the long bond part of the formula with which I've had the most difficulty--and for obvious reasons. I've wondered at times whether old Harry would have viewed things differently in today's economic environment, where the PTB have indicated a willingness to do whatever it takes--including sacrifice of the dollar--to prevent a recession.

I'm going to have to rethink this. Your approach, Mathjak, of having a core holding of TLT and then trading the volatility makes the whole thing a little more palatable.

 

[mathjak107]

actually harry was a little a head of his time. his methodoligy lagged because of the weight of the gold for years. truth is little did we know if we stuck with the rebalancing of the gold all these years when it went lower and lower by today that return on his mix wouldnt be to shabby.

 

[Lsbcal]

.... at least until theres a clear direction to some economic scenerio when a more traditional mix of 60/40 or 50/50 would be better. just my best guess although its not something i may actually do at this point. just hope im not sorry i didnt do it ....

I don't think the future is ever any clearer. I have an AA and every other day think that "maybe we're headed for a recession, hmm ... maybe I should sell something" or "maybe we're going to have a surprisingly nice year next year, maybe I should buy something". For me these mood swings happen all the time. Everytime I have to convince myself that unless I made a major percentage move, a big bet, there'd be no sense in it.

If you haven't done an Investor Policy Statement now ... right now ... might be a good time to do it.

That said ... maybe we're going to have a great year next year ...

 

[mathjak107]

i dont think theres anyone of us who are active in our investments that dont have the same thoughts you do

 

[Lsbcal]

What, you mean I'm not an original thinker?

 

[2B]

I don't think the future is ever any clearer. I have an AA and every other day think that "maybe we're headed for a recession, hmm ... maybe I should sell something" or "maybe we're going to have a surprisingly nice year next year, maybe I should buy something". For me these mood swings happen all the time. Everytime I have to convince myself that unless I made a major percentage move, a big bet, there'd be no sense in it.

If you haven't done an Investor Policy Statement now ... right now ... might be a good time to do it.

That said ... maybe we're going to have a great year next year ...

I totally agree with you. I spent years trying to out smart the market and didn't do anything but generate commissions. I'm on a fixed asset allocation that I intend to stick with unless I really see a major change. If I do, it will be too late to do anything because "the market" will see it long before I do.

My AA is open to evolution. I would like to get 5% REIT but I'm going to wait until the dividend of the Vanguard REIT Index gets above CD rates. I'm also considering a 5% move into broadly diversified higher yielding semi-fixed income. Time will tell.