Historical view of cash versus ST bonds

[Lsbcal]

Recently we had some discussions of putting short term money in cash or short term bonds. Here is a 20 year chart for cash (red), ST investment grade (blue), and ST index (green). The corresponding Vanguard symbols are: VMMXX (Prime Money Market), VFSUX, VBIRX.

Hopefully this chart will help with the decision of which to choose and when.

The data for VBIRX starts in 1997, hence the (false) negative glitch.

 

[Alan]

Great chart, very informative, thanks for posting it.

 

[ejman]

Thank you - very interesting. Surprising to see how closely vfsux tracks the index until the mayhem of 08-09.

 

[brewer12345]

But a big piece of the cushion is not present today. In years past, it was hard to lose money on 3 year paper because just about any conceivable interest rate change would be offset by the coupons on the bonds. With bond rates where they are today, I don't think we can say that today.

 

[ejman]

But a big piece of the cushion is not present today. In years past, it was hard to lose money on 3 year paper because just about any conceivable interest rate change would be offset by the coupons on the bonds. With bond rates where they are today, I don't think we can say that today.

So what could we say today? Obviously rates can't go negative so, if short term rates go from say ~1-2% today to a more "normal" 4-5% what impact would that have on the NAV of these short term funds? And how long would it take for the higher return to overpower the drop in NAV? (I know I'm asking for too much but as long as I'm asking...)

 

[Gone4Good]

But a big piece of the cushion is not present today. In years past, it was hard to lose money on 3 year paper because just about any conceivable interest rate change would be offset by the coupons on the bonds. With bond rates where they are today, I don't think we can say that today.

In fact, with coupons of just 50bp, 3 year bonds are pretty close to zeros and have durations to match . . . about 3 years. It's hard to see a scenario where the U.S. reclaims a normal economic environment without 3-year bonds suffering multiple years of negative returns.

 

[brewer12345]

So what could we say today? Obviously rates can't go negative so, if short term rates go from say ~1-2% today to a more "normal" 4-5% what impact would that have on the NAV of these short term funds? And how long would it take for the higher return to overpower the drop in NAV? (I know I'm asking for too much but as long as I'm asking...)

Multiply the change in rates by the maturity of the bonds and that will give you a rough approximation of the loss. So if the bonds have an average maturity of 3 years and rates spike 4%, you have a 12% loss. This would be offset by the roughly 1% yield.

 

[ejman]

Multiply the change in rates by the maturity of the bonds and that will give you a rough approximation of the loss. So if the bonds have an average maturity of 3 years and rates spike 4%, you have a 12% loss. This would be offset by the roughly 1% yield.

Thank you brewer12345 . So, if ST rates go from 1% to 5% for a delta of 4% and the maturity is 3 years then NAV would go down by 12%. Then it would take 2.4 years at the new 5% rate to make up for the NAV loss. Is this correct?

 

[brewer12345]

Thank you brewer12345 . So, if ST rates go from 1% to 5% for a delta of 4% and the maturity is 3 years then NAV would go down by 12%. Then it would take 2.4 years at the new 5% rate to make up for the NAV loss. Is this correct?

Very roughly, yes. Things get a lot more complicated depending on the exact nature of the fixed income securities in the fund and how the fund is managed.

 

[MichaelB]

Thank you brewer12345 . So, if ST rates go from 1% to 5% for a delta of 4% and the maturity is 3 years then NAV would go down by 12%. Then it would take 2.4 years at the new 5% rate to make up for the NAV loss. Is this correct?

Roughly 2.4 years plus inflation and taxes.