Bond funds: continuing to get hosed

[soupcxan]

If I wanted to watch an investment drop in value every month, I would've put my money into an equity fund...yet even my high quality, intermediate duration bond funds are taking it right up the cinnamon starfish. Stupid interest rates and inflation...I thought all that crap was supposed to be priced into the asset, efficient markets and all that jazz...

So when can I expect the monthly drops in NAV to cease?

 

[wabmester]

Bonds don't price in predicted future events like stocks do. They fluctuate in price until their yield matches the *current* market yield. When rates rise, bond prices fall. That's why you stay in short-duration bonds in times like these. The NAV fluctuates based on the bond/fund's duration.

If you're planning to hold long-term, don't worry about the NAV fluctuations. Once your bond hits maturity (or the fund hits around average maturity), your overall return will match whatever your yield was at the time of purchase.

 

[Mr._johngalt]

If I wanted to watch an investment drop in value every month, I would've put my money into an equity fund...yet even my high quality, intermediate duration bond funds are taking it right up the cinnamon starfish. Stupid interest rates and inflation...I thought all that crap was supposed to be priced into the asset, efficient markets and all that jazz...

So when can I expect the monthly drops in NAV to cease?

Maybe never.

JG

 

[Gone4Good]

Stupid interest rates and inflation...I thought all that crap was supposed to be priced into the asset, efficient markets and all that jazz...

Efficient markets are only supposed to price in all of the information known at that moment in time. Even with all the information in the world, the market can't predict future events with any degree of certainty. This means that marketable securities are going to be volatile.

As to your question "when can I expect the monthly drops in NAV to cease?" - that will happen as soon as interest rates peak.

Just be happy that all those dividends are getting reinvested at a higher rate of return (assuming you're reinvesting).

 

[soupcxan]

Yes, I am reinvesting dividends, and yes, I am planning to hold to maturity, but damn...I still hate seeing red every month.

 

[Gone4Good]

Yes, I am reinvesting dividends, and yes, I am planning to hold to maturity, but damn...I still hate seeing red every month.

CDs aren't marked to market. Neither are I Bonds and EE Bonds. Not the worlds best way to get rich, but zero volatility.

The other answer to your problem might be to stop looking every month.

 

[education]

What in hell is a cinnamon starfish?  I thought I'd heard it all.

Professor

 

[REWahoo]

What in hell is a cinnamon starfish?

Everybody's got one, Professor!

 

[soupcxan]

CDs aren't marked to market.  Neither are I Bonds and EE Bonds.  Not the worlds best way to get rich, but zero volatility.

The other answer to your problem might be to stop looking every month.

True, I do have a fair amount of I-bonds as well. I'm just annoyed with the portion in regular bond funds. I don't have the right constitution for investing.

 

[REWahoo]

I don't have the right constitution for investing.

It's Hell to be a sprinter when the race is a marathon...

 

[soupcxan]

It's Hell to be a sprinter when the race is a marathon...

Oh, don't get me wrong, I have no desire to be a sprinter...I want steady consistent growth for the long term...I just don't want to be running backwards!

 

[Cut-Throat]

Oh, don't get me wrong, I have no desire to be a sprinter...I want steady consistent growth for the long term...I just don't want to be running backwards!

If you want to be a successful long term Investor, you have to get used to years going backwards once in awhile. Think in terms of 25 years not 5 year periods.

 

[wabmester]

I am not a fan of mid- or long-term nominal bonds. In theory, these bonds are supposed to have inflation predictions built into them. Given that long-term treasury bonds have historically returned about 2.5% real, that means the current long-term market prediction for inflation is 2%. That seems like a very bad bet to me, especially given that we're already above 5% inflation this year, and even short-term bonds don't reflect that.

The yield spread between TIPS and nominal bonds just doesn't make sense to me. In theory, TIPS should have a slightly lower yield than nominal treasuries because TIPS remove part of the interest rate risk, but TIPS have a much higher yield right now.

Another thing to consider is that investors are no longer the ones who determine bond rates. In recent years, foreign central banks have become the biggest buyers, and they have different reasons for buying than "smart" investors.

Bottom line: if you buy or hold nominal bonds today, you are making a bet that long-term inflation will be 2% or less. You need to decide for yourself if that is a smart bet.

 

[Mr._johngalt]

What in hell is a cinnamon starfish?  I thought I'd heard it all.

Professor

They are actually quite common. I have even found a few while
paddling around on this board

JG

 

[HFWR]

Few...

 

[Dawg52]

Here is an interesting article from Bill Gross. If one has some cd's maturing, do you think now is a good time to start locking in long term?

http://money.cnn.com/2005/10/27/markets/bondcenter/fed_bernanke_pimco/index.htm

 

[brewer12345]

Here is an interesting article from Bill Gross. If one has some cd's maturing, do you think now is a good time to start locking in long term?

http://money.cnn.com/2005/10/27/markets/bondcenter/fed_bernanke_pimco/index.htm

Actually, I think for mid term (5 year and less) CDs and bonds, this probably isn't a terrible time to buy. You might see some modest losses in the next 6 months or so, but I suspect that the Fed will at least pauuse after another 2 or 3 interest rate increases. The economy has taken enough body blows that at some point things may start slowing down. The drop off in gasoline consumption certainly makes me think that demand has been impacted to a certain degree.

 

[cute fuzzy bunny]

They are actually quite common. I have even found a few while
paddling around on this board

Some of them are KING sized...

This is probably the worst time to own intermediate or long bonds in a very long time unless you're holding to maturity and need the income...I dumped all of mine months ago in favor of high dividend stocks. I think it gets worse from here, not better. Possibly a lot worse.

 

[brewer12345]

Some of them are KING sized...

This is probably the worst time to own intermediate or long bonds in a very long time unless you're holding to maturity and need the income...I dumped all of mine months ago in favor of high dividend stocks.  I think it gets worse from here, not better.  Possibly a lot worse.

Hmm, a 5 year CD probably has a duration a tad under 4 and if you choose wisely has a surrender penalty of 3 months' interest. Hard to get too wacked out there. A beaten down bond, preferred, or trust preferred in an out-of favor sector may have yield over 9% without all that much risk of default. How much do you think that sort of thing will snap beck once people calm down and/or the Fed pauses?

 

[cute fuzzy bunny]

CD's, sure...but <>bonds. Probably a good snap once bernanke raises rates a few times to prove he isnt an inflation dove, then has to cut a little later to fix what he broke.

 

[REWahoo]

CD's, sure...but <>bonds. Probably a good snap once bernanke raises rates a few times to prove he isnt an inflation dove, then has to cut a little later to fix what he broke.

TH, I think you're Gross...

Gross: Bernanke will lower rates
Pimco bond guru sees Fed changing course next year

Bill Gross, managing director of bond powerhouse Pacific Investment Management Co., or Pimco, praised Federal Reserve chairman nominee Ben Bernanke in published comments on Wednesday and predicted that a weaker economy would prompt the new chief to cut U.S. interest rates in 2006.

http://tinyurl.com/cxld3

 

[brewer12345]

CD's, sure...but <>bonds.  Probably a good snap once bernanke raises rates a few times to prove he isnt an inflation dove, then has to cut a little later to fix what he broke.

Different strokes, I guess. I am currently digging around in the bargain bin to find exchange traded bonds and preferreds trading at a discount to par. I have found a few that might be attractive and I will be keeping my eyes open for opportunities.

 

[Gone4Good]

I am not a fan of mid- or long-term nominal bonds.   In theory, these bonds are supposed to have inflation predictions built into them.   Given that long-term treasury bonds have historically returned about 2.5% real, that means the current long-term market prediction for inflation is 2%.    That seems like a very bad bet to me, especially given that we're already above 5% inflation this year, and even short-term bonds don't reflect that.

The yield spread between TIPS and nominal bonds just doesn't make sense to me.   In theory, TIPS should have a slightly lower yield than nominal treasuries because TIPS remove part of the interest rate risk, but TIPS have a much higher yield right now.

Another thing to consider is that investors are no longer the ones who determine bond rates.   In recent years, foreign central banks have become the biggest buyers, and they have different reasons for buying than "smart" investors.

Bottom line: if you buy or hold nominal bonds today, you are making a bet that long-term inflation will be 2% or less.    You need to decide for yourself if that is a smart bet.

10-year treasuries ended today around 4.6% and 10-year TIPS ended about 2% - which means the imbedded inflation expectation in treasuries is about 2.6%. Inflation over the past 10-15 years has averaged about 2.8% (more recently). I don't think either Treasuries or TIPS are a slam dunk favorite here but if I had to bet I'd bet inflation over the next ten years will be greater than 2.6%, making TIPS the better choice.

In view of the fact that I have absolutely no idea what inflation will be over the next ten years my fixed income portfolio has both inflation protected securities and normal bonds - either way I'm part right. (of course I'll be part wrong too. But it feels better looking at the glass as half full)

 

[TromboneAl]

But you want your NAV to be going down.  It means that the bonds that are being bought in the fund now will be getting higher interest rates.

This article shows how rising rates will give you a better return in the long run.

When interest rates fall, rising bond prices boost short-term returns, but the lower interest rates translate into lower returns on future investments, as your reinvested income compounds at lower yields. When interest rates rise, the short-term pain of falling prices can eventually be salved by higher returns on reinvested income.

 

[wabmester]

10-year treasuries ended today around 4.6% and 10-year TIPS ended about 2% - which means the imbedded inflation expectation in treasuries is about 2.6%.

Minor quibble: the break-even inflation rate isn't the same as the embedded inflation prediction if you believe that nominal bonds also include an "inflation guess" risk premium in the yield.

In any case, I think the market is wrong, so TIPS look better to me. And even if the market is right, the upside for nominal bonds is dismal unless we suddenly hit a protracted stretch of deflation, in which case you'll look like a genius.