Morningstar's Bucket Stress Test

[ERhoosier]

I don't want to be the guy to frame the argument on this thread. All I'm saying for my particular ER - whether a bucket of cash, dividends rental/RE income, pension, Social Security, bond interest, etc., I wanted a 'safe' cover for for my 'core' expenses so I wouldn't have take so much out of my 'main portfolio' during a downturn as to disable my long term retirement.

There is a lot of wiggle room per individual here. Previous threads on this forum and others have converted income streams into faux bond lump sums and done single portfolio safe withdrawal calculations.

heh heh heh - I've done both calculations over the years but emotionally and physically I did the first - show me the money to cover current expenses and let my long term portfolio build for the future.

Cannot fault your logic.
Rule #1 of investing is ALWAYS being able to sleep at night

 

[ERD50]

Consider that cash is paying at least 0.85%, and I don't see the point in risking such money in short-term bond finds that IMO have higher relative interest rate risk than intermediate bond funds over the next few years. The rate curve is most likely to flatten when Fed rates start to rise, hurting shorter-term the most, and intermediate rates might hardly budge.

If you can get equal or higher % for cash, then it is certainly the better choice. I have not researched cash offerings much, all I see are the near zero rates in money market and checking accounts.

Vanguard Prime MM is paying just 0.01%. Where can someone get 0.85% for cash?

-ERD50

 

[photoguy]

Ally is 0.9%

 

[ERD50]

Ally is 0.9%

Ahh, OK, I do see that some banks are offering those rates. Interesting, but unfortunately, I can't find MM funds that I could just hold in a brokerage account, which would be more flexible.

-ERD50

 

[photoguy]

I also probably have more than I should in Vanguard prime due to laziness/inertia.

 

[audreyh1]

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If you can get equal or higher % for cash, then it is certainly the better choice. I have not researched cash offerings much, all I see are the near zero rates in money market and checking accounts.

Vanguard Prime MM is paying just 0.01%. Where can someone get 0.85% for cash?

-ERD50

Now I see what you mean when you say cash is paying "nothing". But you have missed out on something very important - FDIC insured high yield savings accounts. It's easy to find one paying at least 0.85%, FDIC insured, no interest rate risk, and ability to withdraw finds whenever needed with no penalties. Looks like a few are paying 0.9% and 0.95% and even 1.0%. MMA and Savings Rates by Bankrate.com

I hope people holding large chunks of cash are using these vehicles, as well as Bank CDs and IBonds as they come available at good rates instead of leaving their money in money market funds. Money market funds are riskier and not FDIC insured.

And I hope they also aren't settling for the low rates offered by ultra-short bond funds if they are yielding less, because they are then just taking on unnecessary interest-rate risk (and perhaps credit risk too).

 

[audreyh1]

Ahh, OK, I do see that some banks are offering those rates. Interesting, but unfortunately, I can't find MM funds that I could just hold in a brokerage account, which would be more flexible.

-ERD50

If someone holds more than a token amount in cash, it is well worth the well less than an hour it takes to set up one of these accounts. Transfers to and from your brokerage are by ACH transfer. It's quite seamless, and flexible enough.

The only downside is having another account, but well worth the improved rates and the FDIC insurance, IMO, something not available in the brokerage. I wouldn't put funds there that I intended to reinvest in short order - only funds that I planned to hold in cash for a while that was not in IBonds or CDs.

If you are pulling a year's worth of income to live on from your retirement portfolio, it's straightforward to transfer it from the brokerage to such an account, and then set up an automatic monthly deposits to your checking account to cover expenses. You can make additional withdrawals/transfers at any time - the only constraint being no more than six withdrawals a month.

 

[teejayevans]

Consider that cash is paying at least 0.85%, and I don't see the point in risking such money in short-term bond finds that IMO have higher relative interest rate risk than intermediate bond funds over the next few years. The rate curve is most likely to flatten when Fed rates start to rise, hurting shorter-term the most, and intermediate rates might hardly budge.

Huh? Interest rates affect is less with short term bonds, not more



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[teejayevans]

VFSUX avg return for 1 year is 2.26 and has a yield of 1.74%



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[audreyh1]

Huh? Interest rates affect is less with short term bonds, not more

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That is not necessarily true. Short term rates can rise, and intermediate rates not. This has happened before.

You have to pay attention to the yield curve. It is quite steep right now. If it flattens - it could be with the short rates going up far more than the intermediate interest rates. There have even been inverted yield curves with short-term having higher interest rates than long.

PEOPLE TALK ABOUT interest rates going up and going down as if all rates moved together. The truth is, the rates on bonds of different maturities behave quite independently of each other, with short-term rates and long-term rates often moving in opposite directions simultaneously. What's important is the overall pattern of interest-rate movement — and what it says about the future of the economy and Wall Street. Rates are like tea leaves, only much more reliable if you know how to read them.

http://sm.marketwatch.com/investing/bonds/the-living-yield-curve-7923/

 

[pb4uski]

Consider that cash is paying at least 0.85%, and I don't see the point in risking such money in short-term bond finds that IMO have higher relative interest rate risk than intermediate bond funds over the next few years. The rate curve is most likely to flatten when Fed rates start to rise, hurting shorter-term the most, and intermediate rates might hardly budge.

+1 on the short end, I prefer online savings accounts that pay 0.85% to 1% to short term bond funds.... better yields, no interest rate risk and no credit risk since they are FDIC insured.

When I logged on to my Discover Bank account today I noticed that the inerest rate increased from 0.85% to 0.9%.

 

[teejayevans]

That is not necessarily true. Short term rates can rise, and intermediate rates not. This has happened before.



You have to pay attention to the yield curve. It is quite steep right now. If it flattens - it could be with the short rates going up far more than the intermediate interest rates.

But the affect on bonds is base on their maturity, so even with a completely flat curve, a 1% rise rates with affect longer term bond funds more, it's a mathematical certainty, below is a simple calculator to show relationship

https://investor.vanguard.com/insights/bond-fund-basics-duration

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[audreyh1]

VFSUX avg return for 1 year is 2.26 and has a yield of 1.74%


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This isn't a cash equivalent, so you have to be aware of the additional risks you are taking for that additional yield. Duration of 2.5 years - so some interest rate risk.

But also credit risk. Because this fund holds mostly corporate bonds and consumer loans, and those could be hit during a credit crisis or a downturn, causing the NAV to drop, while treasury bond fund NAVs might rise during such a scenario.

 

[audreyh1]

But the affect on bonds is base on their maturity, so even with a completely flat curve, a 1% rise rates with affect longer term bond funds more, it's a mathematical certainty, below is a simple calculator to show relationship

https://investor.vanguard.com/insights/bond-fund-basics-duration

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It's all about the curve. When the yield curve goes from steep, which it is now, to flat or inverted, it is possible for long-term rates to not change, or to drop even, at the same time that short-term rates rise. In that scenario long-term bond funds do not experience a drop in NAV, while short-term bond funds do.

The yield curve is not currently flat, and it is not usual that rates rise equally across all maturities. To flatten, short-term rates must rise to match the long rates, OR long-term rates drop to be the same as short. In general, the Fed raising their Fed Funds rate makes investors less concerned about future inflation, or even concerned that the Fed will cause a recession, and this can make short term rates rise while at the same time, long term interest rates drop.

 

[photoguy]

But also credit risk. Because this fund holds mostly corporate bonds and consumer loans, and those could be hit during a credit crisis or a downturn, causing the NAV to drop, while treasury bond fund NAVs might rise during such a scenario.

VFSUX dropped about 7% in 2008/2009 so not great but not terrible either.

 

[audreyh1]

VFSUX dropped about 7% in 2008/2009 so not great but not terrible either.

Actually - that is pretty bad. Especially for a short-term bond fund. That's a good wake up call for exactly how risky such a fund is. A good example of why it should not be used as if it were a "low-risk" cash equivalent. No one would be happy with a 7% on what was supposed to be cash.

A fund much higher in Treasuries and govt-backed bonds is a much better choice if you are looking for diversification against equities during times of crisis.

VBIRX Vanguard Adm Short-term Bond Funds VBIRX vs VFSUX chart

 

[photoguy]

I'm ok with the drop but I purchased it knowing full well what the tradeoff is for the extra yield. I think it's even ok even as an emergency fund since a 7% haircut is not that bad (at least in my opinion -- others will differ) and presumably over time the higher yield will allow it to build up a buffer or catch up depending on how long you've held it.

For intermediate I'm trying to stick much more to treasuries (and no junk) but I have a fair bit in vanguard's total bond (only 65% gov) for various reasons.

I think as time passes, more of my short term / cash equivalents are going to be shuffled into I-bonds. But we can only put in 20k or so a year and the fixed rate sucks (how I long for the 3% real days).

 

[mathjak107]

i bet most of us remember the days we used to laugh at anyone using a 5-1/4% savings account as a place to keep their money..

the poor results many of the short term bond funds got in 2008-2009 were really a once in a lifetime thing.

most all loaded up on what was supposed to be safe paper that later turned out couldn't be valued and turned toxic..

fidelity maintained a central core fund for use by the mutual funds where they could bring up yields by buying some of this paper.

funds like fidelity ultra conservative bond fund got hammered and they were one step above a money market.

in fact i hold the distinction of losing money in a money market. just a few cents on the dollar but we did break the buck.