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Do Bonds still make sense?
Old 02-09-2015, 08:40 AM   #1
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Do Bonds still make sense?

I keep looking at the sorry returns on most bonds and find myself wondering if they still make sense. The bond funds that seem to have any return are either hedging or dealing in junk bonds. At least that is the way it appears to me. I've never been a great fan of bonds. I did some Ibonds for the kids educational funds but even those seem to have really poor returns these days. I think they even went negative for a while.

I have some rental and investment property. Most of it either continued up, or held stable during the housing bubble. I admit that is mostly the luck of location but I think real estate in my area is pretty stable compared to the trendy coasts. Farmland is appreciating at a good clip as far as I can tell.

What are your views on bonds? Is it reasonable to replace bonds with real estate in a portfolio or do you view these as too different to sub for one another?
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Old 02-09-2015, 09:04 AM   #2
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I think bonds still make sense as part of a portfolio depending on your age and risk tolerance. On then other hand, it is reasonable for you (IMO) to replace SOME of your bonds with real estate. But remember that although they both generate income, they are not exactly the same.
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Old 02-09-2015, 09:22 AM   #3
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We are heavy in rental real estate - in fact it has been our primary income source for decades. We are also risk averse and LWBOM, which led to us pushing our property loans hard and getting them all paid off. As a result we ended up with a surplus of cash. That has been stuck in PenFed CDs, which seemed to my unsophisticated self to pay as well or better than bonds, and savings accounts. The savings account money was deployed in making short term high interest property loans. The tax man thinks we are sweet as candy.

While I also think real estate is sorta like a bond it is awful hard to unload it and takes a substantial amount of maintenance. As we age we are trying to divest of the RE and have been sticking some cash in the California tax free bond fund, as she has declared residence here. Hoping to see about 3% federal and state tax free from it, easy to sell, no tenant issues. If it works as planned that is better than the PenFed CDs are doing.
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Old 02-09-2015, 09:54 AM   #4
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There are some tax exempt municipal bond funds that are paying between 4 and 5%. Would that be a good option?


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Old 02-09-2015, 11:12 AM   #5
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I didn't hold much at all in bond funds when I was saving for retirement, but as a retiree, I consider them an essential part of my asset allocation. Their main function is to counterbalance (i.e. diversify) my riskier equity investments. Their function in lowering the volatility of a portfolio when held along with stocks is well documented. You might want to look at efficient frontier graphs.

I don't think it is reasonable to replace bonds with REITs in a portfolio. I hold REITs as 5% of my equity allocation.

And anyone who says thinks bond funds don't have much return outside hedging or risky high yield hasn't really been paying attention. Some years even "conservative" bonds can have impressive total returns. Last year the AGG representing the U.S. bond universe was the highest performing asset class after the S&P 500 stocks (US large cap) and REITs. You never really know from one year to the next which asset class is going to be the "winner", which is why many of us spread our bets.
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Old 02-09-2015, 11:25 AM   #6
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I didn't hold much at all in bond funds when I was saving for retirement, but as a retiree, I consider them an essential part of my asset allocation.
It's hard to imagine now, but up until two years before I retired, I was 100% in equity funds.

Now that I am retired have shifted to 45:55 (equities, fixed). I like having bond funds, for the reasons audreyh1 cites.
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Old 02-09-2015, 11:40 AM   #7
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It's hard to imagine now, but up until two years before I retired, I was 100% in equity funds.

Now that I am retired have shifted to 45:55 (equities, fixed). I like having bond funds, for the reasons audreyh1 cites.
I was 90% equities in 2007. I decided that was too much and I rebalanced on my birthday to 60% in August. That was a good move but 0 would have been a lot better with what happened.

I stayed invested but shifted to less equities. I'm now 45/55 (E,F). I don't have bond funds because of the interest rate risk. I have laddered CDs. I used to have a 5 year ladder yielding over 5% but now I'm getting less than 2%.
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Old 02-09-2015, 11:42 AM   #8
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I didn't hold much at all in bond funds when I was saving for retirement, but as a retiree, I consider them an essential part of my asset allocation. Their main function is to counterbalance (i.e. diversify) my riskier equity investments. Their function in lowering the volatility of a portfolio when held along with stocks is well documented. You might want to look at efficient frontier graphs.

I don't think it is reasonable to replace bonds with REITs in a portfolio. I hold REITs as 5% of my equity allocation.

And anyone who says thinks bond funds don't have much return outside hedging or risky high yield hasn't really been paying attention. Some years even "conservative" bonds can have impressive total returns. Last year the AGG representing the U.S. bond universe was the highest performing asset class after the S&P 500 stocks (US large cap) and REITs. You never really know from one year to the next which asset class is going to be the "winner", which is why many of us spread our bets.
+1 totally agree
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Old 02-09-2015, 11:43 AM   #9
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And anyone who says thinks bond funds don't have much return outside hedging or risky high yield hasn't really been paying attention. Some years even "conservative" bonds can have impressive total returns. Last year the AGG representing the U.S. bond universe was the highest performing asset class after the S&P 500 stocks (US large cap) and REITs. You never really know from one year to the next which asset class is going to be the "winner", which is why many of us spread our bets.
This is a much more accurate assessment of the track record of bonds than OP's post, which borders on being factually incorrect. Bonds were my second best performing asset class last year after REITs, so it's a little mysterious to me how someone can start a thread complaining about poor bond returns.

Unfortunately, past performance doesn't guarantee future results, so who knows how bonds will perform in the future? OP may be right to stay away from bonds in 2015, in spite of the massive bond rally we've just been through.
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Old 02-09-2015, 11:59 AM   #10
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Currently 55 years old, not retired but have been FI for many years. I manage my own funds and always have. I am 40% in individual municipal bonds which I buy and trade for my own account that range in maturity, state of issuance and credit rating. I do not own any mutual funds but only individual stocks and bonds in my non-real estate portfolio. I ladder the bonds like many people ladder CDs. However, I know (borrowing a default) that I will get my principal back at maturity.

Currently most of my bonds are between 2017 and 2030 maturity dates. many have earlier call features.

Just letting you know what others might be doing.
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Old 02-09-2015, 12:20 PM   #11
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I was nearly all equities (other than our emergency funds) up until 2000 (when I was 45). From 2000 to 2002 I transitioned to a more balanced AA of 60/40 which is what I still use today. Bonds not only apply stability to my overall portfolio but they are generally uncorrelated with stocks (but not always).

In recent years I was unenamored with yields and transitioned out of government bonds into corporate bonds as I am comfortable taking some credit risk in exchange for better yields. More recently, I have been concerned with interest rate risk and transitioned to CDs (Pen Fed 3% 5 year deal) and target maturity corporate bond funds maturing around 2020. The last time I checked back in Nov 2014 my weighted average fixed income yield was ~2.6% and weighted average duration was ~2.6, in large part due to the Pen Fed CDs (which I consider to have 0 duration). My returns for 2014 were a couple points below my benchmark as a result of that strategy and diversified bond funds had a good year but I'm staying the course as I believe interest rates will ultimately rise and normalize.

I would not consider REITs or real estate as a fixed income substitute.
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Old 02-09-2015, 01:30 PM   #12
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Recently, someone posted an announcement of an e-book Why Bother With Bonds? that was being offered for free temporarily (I think the time for that deal has now passed). I can't find that post, but a link for the book at Amazon is:

http://www.amazon.com/Why-Bother-Bonds-All-Weather-Independence/dp/0985800402

I thought the book was very instructive, even for people like me who know very little about bonds.
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Old 02-09-2015, 01:53 PM   #13
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Quote:
Originally Posted by audreyh1 View Post
I don't think it is reasonable to replace bonds with REITs in a portfolio. I hold REITs as 5% of my equity allocation.
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Originally Posted by pb4uski View Post
I would not consider REITs or real estate as a fixed income substitute.
+2. I own both REITs and Bond Funds, but REITs are not a substitute for Bonds. I assume the OP meant actual real estate ownership, which comes with it's own set of challenges.

Vanguard REIT (blue) vs Vanguard Total Bond (red) past 10 years:
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File Type: jpg REIT.jpg (135.5 KB, 39 views)
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Old 02-09-2015, 03:05 PM   #14
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Despite some concerns about interest rate risk, I stayed the course, and was very pleased with bond fund performance last year, especially AGG and LQD which make up 65% of my bond holdings. I have a stable value fund ready and waiting in case rates actually start to move higher. But I have no intention of making that move in anticipation of a rate increase that nobody really knows when or if it will occur.

My AA includes 35% bonds and 15% real estate (2 rental houses plus VNQ). You can see from my signature that I don't consider real estate as part of the equity or fixed income allocations. It's a separate category. I like real estate as an alternative holding. The rentals are paid off and produce reliable 6.5% pretax cashflow with favorable tax treatment. And IIRC, VNQ was up over 30% in 2014, and another 5%+ so far in 2015, which has helped offset a rocky start for stocks.

Yes, bonds absolutely still make sense as part of a balanced portfolio. But I like to keep it at 35% so I have room in the AA for real estate, which I also think makes a lot of sense as a long-term fixture in any balanced portfolio.
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Old 02-09-2015, 03:10 PM   #15
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IMO, Bonds aren't there to generate return based on price. They can generate fixed income based on interest and they are there to reduce volatility. Real estate can be very volatile as well, and thus doesn't make a suitable alternative to bonds. If you want to generate greater returns, consider reducing your bond holdings for more equity or perhaps real estate, but don't fool yourself into thinking you're also not increasing market risk and volatility at the same time.

I just want my bond allocation to match or just beat inflation. Using the G-fund, I do just that. My equity allocation is what generates my return. I have little concern about the price of bonds because they aren't an asset I ever truly intend to sell.

Disclosure: 85e/15b AA, homeowner.
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Old 02-09-2015, 05:19 PM   #16
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There are some tax exempt municipal bond funds that are paying between 4 and 5%. Would that be a good option?


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Where? Must be very high risk.
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Old 02-09-2015, 09:57 PM   #17
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This is a much more accurate assessment of the track record of bonds than OP's post, which borders on being factually incorrect. Bonds were my second best performing asset class last year after REITs, so it's a little mysterious to me how someone can start a thread complaining about poor bond returns.

Unfortunately, past performance doesn't guarantee future results, so who knows how bonds will perform in the future? OP may be right to stay away from bonds in 2015, in spite of the massive bond rally we've just been through.
Last 10 years of bonds vs inflation are pretty miserable on the ones I looked at--especially if you look at after tax results and compare to inflation. Maybe I'm looking at the wrong ones--buying mutual funds/index funds have tax bites that buying individual bonds and holding to maturity don't. Or tax free muni's. But now you have to worry about what happens when inflation starts to rise. I admit I fear inflation. I have a couple bond funds (PIMCO Total Return anyone?). I'm thinking of dropping them totally. Never seen a good return on any bond fund compared to a stock fund. I will say they are less volatile. When they drop, they don't drop as far. But if you wait any time at all they are way behind equities or rental houses (which admittedly are really a job!)
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Old 02-10-2015, 01:57 AM   #18
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I keep looking at the sorry returns on most bonds ...The bond funds that seem to have any return are either hedging or dealing in junk bonds. ...?

Not sure what you are looking at. In 2014, EDV, Vanguard long Treasury zeros, made 44%. No hedging, no junk. Lots of interest rate risk, however.





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Old 02-10-2015, 04:06 AM   #19
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the 30 year bond was up 25% in 2014 and up another 10% or so this year. the story is all about capital apprecian ,not yield.

in fact my speculating money is in USO and TLT for now. i ride the cycles up and down and buy and sell sometimes 2 times in a week.
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Old 02-10-2015, 07:26 AM   #20
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Last 10 years of bonds vs inflation are pretty miserable on the ones I looked at--especially if you look at after tax results and compare to inflation. Maybe I'm looking at the wrong ones
I think you're most definitely looking at the wrong ones. Inflation adjusted bond returns have been quite generous in the past decade, with most bond mutual funds handily outpacing inflation. Still, I suppose you could have found a few that failed to keep pace with inflation. Looking at the CPI figures, I see that CPI came in at 190.300 in December, 2004 compared with 234.812 in December, 2014. That works out to a compounded average inflation rate of 2.124% over the last decade. If you compare this with Vanguard's ten year performance figures for the bond funds it offers, you have to pick the absolutely worst performing fund to find one that didn't beat inflation. That's VWSTX, which is a short term tax exempt fund. Even VWSTX averaged 2.06% over ten years, so it just barely lost ground to inflation.

So the facts fail to support your notion that bonds have had "miserable" returns compared to inflation. Again, as I said in my earlier post, that doesn't say that bonds will continue to beat inflation in the future. But all of this hand wringing about poor bond returns in the past just doesn't hold up under scrutiny.

Historical Consumer Price Index (CPI)

https://investor.vanguard.com/mutual...ssetclass=bond
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