Bond Investment Alternatives

[jarts98]

Much has been written lately about the "impending" bond bubble burst. First, it's interesting to see that these articles have been written for the last several years, yet there has been no collapse of the bond market. Obviously trying to time it is impossible. However researching and understanding alternatives makes sense to me. Making changes to your specific investments after research is a more educated decision and not a reflex to the hype.

This leads me to ask: For those who have changed the bond portion of their portfolio (both long- and short-term portfolios), what investment changes have you made? Where did you move some or all of your bond investments? Or are you resolved to stay the course, no matter what rates (and therefore bond returns) do in the future?

Thanks for your thoughts.

[Ed_The_Gypsy]

As some others here, I am treating Social Security as my bond equivalent. I am almost 100% in equities, trending towards good dividend-payers. Exception: a small portion in Wellesley which has bonds. But I can't figure out how they get the dividends they do with bonds these days.

[brewer12345]

In today's environment, I chose to limit my durations and tread carefully. I have some broad bond index exposure, but the aggregate index has a duration of about 5 and my exposure is modest. Other forms of fixed income I have embraced are CDs with a small surrender penalty (minimal duration), closed end funds with holdings of bonds that aren't long duration and trading at a discount to NAV (own some ACG and have been buying WIW of late), and merger arbitrage funds (MERFX and ARBFX). I also have been holding a larger slug of cash than usual. I also chose to refi into a 30 year fixed rate mortgage over the summer, which is a natural hedge to portfolio bond positions.

[W2R]

I have not changed my bond allocation, and do not plan to change it. It provides me with dividends that make up a good part of my spending money.

I have been hearing the predictions of an imminent catastrophic bond bubble burst for the past five years. During this time my bonds have continued to thrive. I suppose it is just a matter of time before they collapse, but how much time? A stopped clock is right twice a day, after all.

If/when they collapse, I can always claim SS if necessary.

[GrayHare]

To a variety of dividend paying stocks, mostly forms of utilities, telecoms, energy, pipelines, etc.

[freebird5825]

No changes to my TE muni bond funds.

I did do some diversification tweaks with respect to average duration by DCAing $200 per month to 2 other shorter term TE muni bond funds (already had a medium size principal in both) all throughout 2012. I reached my target allocation for TE muni bond funds and recently halted the DCA.
I use the TE dividends to build up my emergency fund a little more and/or buy some more BHP when the price is right.

My other bond funds in a Roth account go merrily along.

[yakers]

I have reduced bonds from about 60% to about 40% of my holdings. DW has her IRA mostly in Wellesley and I trust the VG peole will do as well as possible with bonds. I have 40% of my 401k type account (Federal TSP) in the G Fund which I treat like a stable value fund, I am adding small amounts of ibonds. You could maybe look at Munis. Need to hold something as fixed assets.

[samclem]

Quote:

Originally Posted by jarts98 This leads me to ask: For those who have changed the bond portion of their portfolio (both long- and short-term portfolios), what investment changes have you made? Where did you move some or all of your bond investments?

More cash and higher-dividend stocks, less in bonds. And I'm mostly keeping the bond duration low (less than 3 years). You might want to consider Guggenheim BulletShares ETFs as a means to significantly reduce interest rate risk. They behave like a bond held to maturity, but allow you to diversify over hundreds of bonds to spread out your default risk.

[FIREd]

I moved away from bonds in 2010 by buying CDs when good yields could still be found. I also have a generous helping of i-bonds.

The rest is invested in bond funds with a duration < 5 years. Since those bond funds are in my IRA and that I do not intend on touching my retirement account for at least 20 years, I'll just ride the bubble and reinvest more income at a lower price when the bubble bursts.

[Meadbh]

My tax deferred portfolio now includes a private target return fund which pays a coupon based on the returns of a basket of assets that includes government and corporate bonds, preferred shares, cash and equities. The target return equals treasuries plus 3% and it has been achieving higher since inception.

[racy]

Quote:

Originally Posted by jarts98 ....what investment changes have you made? Where did you move some or all of your bond investments? Or are you resolved to stay the course....

Of my fixed income portion I shifted 20% to Short Term Investment Grade, put about 15% in Wellesley (let some Vanguard managers do their thing), and the left the rest to stay the course with Intermediate Term Index.

I am keeping an eye out for the long-promised introduction of Vanguard International Bond Index. (Vanguard says hedged international bonds of 20-40% of one's fixed income would be wise for diversification). I would shift some of the Intermediate Term Index to that.

And, on the equity side I added some REITs, both US and ex-US.

[FIRE'd@51]

Quote:

Originally Posted by Ed_The_Gypsy Exception: a small portion in Wellesley which has bonds. But I can't figure out how they get the dividends they do with bonds these days.

Probably capital gains distributions from the gain in bond prices. I don't own Wellesley, but I do own VG LT Investment Grade and VG ST Investment Grade. In 2012 the percentage of the distributions that was capital cains was 18.5% and 16%, respectively.

[ERD50]

Quote:

Originally Posted by brewer12345 In today's environment, I chose to limit my durations and tread carefully. ...

I know you have been raising red flags regarding some of the action you've seen in the junk bond market. I found this on the Fidelity High Yield:

Fidelity High Income Fund (SPHIX)

Quote:

Weighted Average Maturity as of 12/31/2012 4.7 Years Duration as of 12/31/2012 2.9 Years

That duration looks pretty short to me - is that a (relatively) good sign for this fund?

-ERD50

[Lsbcal]

Quote:

Originally Posted by W2R I have not changed my bond allocation, and do not plan to change it. It provides me with dividends that make up a good part of my spending money. I have been hearing the predictions of an imminent catastrophic bond bubble burst for the past five years. During this time my bonds have continued to thrive. I suppose it is just a matter of time before they collapse, but how much time? A stopped clock is right twice a day, after all. If/when they collapse, I can always claim SS if necessary.

I don't think there will be a collapse. Probably there will be several months of 12 month negative returns.

To get an idea of what might happen I created a spreadsheet with a few variables. Here is one run comparing two different bond funds (1) a short term investment grade fund, (2) an intermediate term fund. I own both of these. For a summary of results just look at the green CAGR (compound annual return) column for the 7 years of this simulation.




Here are the same funds run with a faster interest rate ramp that takes rates up to the same level:



Of course, there are a huge number of possibilities including that short rates will not move as much as intermediate rates, or vice-versa. But this gives one some numbers to understand the envelope of possibilities.

[Midpack]

This is a recurring discussion of course, and the chart below will make my answer obvious to many. I shortened duration a little but that's it, I did not change my overall allocation.

• The Fed has repeatedly gone on record stating there will be no rate hikes, most recently extended to 2015.
• Bond yields correlate with Fed funds rates/interest rates and inflation.
• "Bubble" overstates the condition IMO, and it's not going to "burst" while interest rates remain relatively low.
• I'm happy to take bond fund yields for the next few years. Those who screamed 'bond bubble' and bailed in the past 3-5 years missed some pretty good yields.
• Most of us hold equities already and changing allocation is fine. But dividend paying stocks are not an alternative to bonds, they're a different asset class like all equities. While bond fund NAVs will take a hit when interest rates finally rise, the rise won't be sudden or abrupt, and how NAVs are affected is well documented. OTOH while dividends may be predictable from equities, the underlying stock prices (NAV equivalent) are more volatile and unpredictable than bond fund NAVs if all past history is any indication.

[samclem]

Here's another relevant correlation:



Change in bond yields in red, change in bond prices in blue (both fairly long duration). That's through Dec 2010.

I think most agree that bond yields (the red line) are at very low levels now. When they go up, the blue line (prices) will go down. And if a lot of folks now own bonds because they all plan to sell in 2015 (Ben's announced milestone for ending the easing) or as soon as the rates start to rise, the only winners will be the very few who leave the party early, because the price of bonds will decrease very rapidly once the first guy heads toward the door.

And we're playing this game to earn how much? An extra 2% per year yield? Look at the blue line--it dropped more than 2 percent in a week in some cases.

All this is irrelevant if one holds the bonds to maturity, though that could mean holding on to that bond with the 3% yield for many years while new bonds are paying 6+%.

Seems like lots of downside risk to me for an extra few percent right now.

samclem (Dirty Bond Market Timer--and suddenly a "chartist". I'm going to be sick now . . .)

[skyvue]

Last week I rebalanced my tax deffered portfolio from 45% bonds to 25% bonds. I moved the money into a various stock mutual funds.

[jon-nyc]

I hold individual issues. What they lose in delta they'll make up in theta. Mine are all TIPs, essentially I'm building a synthetic annuity for later (post 59) years.

[brewer12345]

Quote:

Originally Posted by ERD50 I know you have been raising red flags regarding some of the action you've seen in the junk bond market. I found this on the Fidelity High Yield: Fidelity High Income Fund (SPHIX) That duration looks pretty short to me - is that a (relatively) good sign for this fund? -ERD50

Modest duration is a plus for high yield in general. However, it is besides the point. The junk world is presently beset by older bonds being called and replaced with new bonds that have both lower yields and far looser terms and conditions. New issue bonds have apallingly little covenant protection for investors and I would not touch them with your ten foot pole.

[veremchuka]

Quote:

Originally Posted by brewer12345 Modest duration is a plus for high yield in general. However, it is besides the point. The junk world is presently beset by older bonds being called and replaced with new bonds that have both lower yields and far looser terms and conditions. New issue bonds have apallingly little covenant protection for investors and I would not touch them with your ten foot pole.

So I take it you don't like Vanguard's junk bond fund either? I bought it in the mid $4 range when it was yielding ~ 12%, actually a bit more. The yield has dropped a lot but 4.6% in my Roth, it is tax free so that looks good. Cap appreciation has been good too up to the $6.1X area. I don't have much, about 4% of total portfolio. I consider selling it and putting the money into the Total International Stock Market Index to up the % of equities and the % of international. It would have to drop a lot in nav for me to lose money and that'd push up the yield. This is why I resist doing this.