Why would anyone buy bonds or bond funds right now?

[pb4uski]

Propaganda notwithstanding, why would the Fed tighten? There is no sign of an over heated anything on the horizon to cause inflation and other countries continue to try the articiallly manipulate their currency lower.

The only reason I can see them tightening is to deflate a stock market bubble.

It's not so much as the Fed directly tightening - but the Fed slowly winding down their still on-going purchasing of treasuries to artificially depress interest rates. Once they cut back/stop their buying, the drop in demand will most probably be accompanied by a rise in interest rates to a more natural equilibrium by market forces.

That and I don't think they really wanted to do QE but had run out of ammunition and that was about the only choice they had left so they would like to get out of that business as soon as it is prudent to do so. That said, I think the market worries too much abut the taper - the Fed will taper gradually once they sense the economy is healthy enough to withstand the gradual rise in interest rates. I trust they will get it right (or close enough).

 

[Ken11]

Besides the points about unpredictability and the fact that many folks thought rates would increase over the past few years I think the following point may be even more important
The function of non-equities in an AA managed portfolio is to allow for rebalancing.
If you go all equities then when equities inevitably drop you've got nothing to fund the cheap buys. That's fundamental to the returns of AA portfolios.

Perhaps non-equities could be something other than bonds- like cash or CD's.
At least that would still allow you to profit by buying during dips in equities.

Another point is that even with rates increasing bonds can offer positive returns ( interest payouts plus asset value). If the rate increases are orderly and are expected to be persistent the market prices this into the bonds (yield curve).
Vanguard has a chart that shows such returns in historical data. I cant find it.

OF course unexpected and disorderly rate increases can happen too.

 

[ERhoosier]

Anyone who thinks US equities cannot drop hard and stay down for many yrs needs to look at Japan in late '80's. Returns on the Nikkei were comfortably outpacing US market. Japan was widely viewed as THE unbeatable economic titan & predicted to overtake the US as largest equity market in world within 5-10yrs. Nikkei peaked late '89 at almost 40k, and despite recent run up (50+% this yr) it remains DOWN ~60% over past 24yrs. NOT claiming this will happen to US, but US has also had spans of >10yrs with min to neg equity returns (inc. '99-'10, '65-82, '29-55).
IMHO- There is good reason to hold AA of ST bonds other than as a parking place between "buying the dips" in equities.

 

[RobLJ]

Why bonds?

I don't like bonds either, like OP, but there are more than a few reasons to own

• safety cushion for a market drop, for which we're overdue. I'm still bullish on equities for a couple years, but that's the roll of bonds.
• the Fed is still fighting deflation and there is a significant chance that yields will remain low for some time. I personally think the economy finally is beginning to slowly reach lift-off, but that remains to be seen. Deflation is still the dominant.
• as some one noted, bonds or cash are available for rebalancing after a significant market drop

With the above, I've significantly decreased duration and sold TIPS funds to lock in gains over the last two years. I haven't made anything in bonds but I haven't lost much either this year, so short-term decreasing duration 18 months ago has worked out. We'll see going forward.
I'm considering dollar cost averaging slowly into longer intermediate Treasury funds over the next two years. Since the bond duration is so low. This would be monthly and very gradual, to take advantage if interest rates do go up. (ie, Market timing).

 

[tuixiu]

We still have our bond allocation parked in the stable value fund available in wife's 457, currently paying only 2% but I'll take it.

 

[kyounge1956]

with impending increases in interest rates over the next few years, why would anyone buy bonds or bond funds right now?

Short answer: to keep the asset allocation of one's overall portfolio on target.

Speaking of which, it's time for me to look at mine and see whether I need to rebalance or not.

 

[clifp]

I buy bonds and bond funds because the alternative has been to earn 0.045% on my regular savings and about 1.26% on two year CD's. PenFed's recent 5 year CD has changed my thinking and I have transferred both regular savings funds and short-term bond fund money to some of the PenFed CD's.

I've had the Vanguard GNMA fund forever, and it has delivered 5% returns while maintaining a price of $10 +/- $1 during almost that entire time.

Since 2008, I've reduced my holding in it from $250,000 to $52,000 (minimum for Admirals share). It is currently yielding 2.7%. So far this year it has lost 1.87%

Is there any reason to not sell the fund and transfer the proceeds into the 3% PenFed CD's? There will be a minor capital gain but I have some offsetting losses.

 

[GalaxyBoy]

Because I found out the hard way years ago that I can't time the market, I determined my desired asset allocation, wrote an Investment Policy Statement, implemented it, and now I intend to Stay the Course.

I'm glad I didn't have zero bonds in my accounts five years ago. Seems like there has been a constant fear of rising interest rates for much longer than that.

 

[clifp]

Because I found out the hard way years ago that I can't time the market, I determined my desired asset allocation, wrote an Investment Policy Statement, implemented it, and now I intend to Stay the Course.

I'm glad I didn't have zero bonds in my accounts five years ago. Seems like there has been a constant fear of rising interest rates for much longer than that.

Actually I'd say the concern for rising interest rates started in late 2009 so 4 years, I think most of us were shell shocked in Dec 2008

I'd also in hindsight you would been much better off with 0% bonds, the returns of BND (total bond market) have been 4.39% over the last 5 years vs 17.97% for VTI, which over 5 years correspond to difference between total 23% return and 228%. You may have slept better with some bonds (I know I did) but that is ton of money to give up for good night sleep.

 

[foxfirev5]

You may have slept better with some bonds (I know I did) but that is ton of money to give up for good night sleep.[/QUOTE]

A good nights sleep - Priceless

 

[scrabbler1]

I have been investing in bond funds for more than 20 years. And since I ERed 5 years ago, the monthly dividends from them provide me with more than enough money to cover my expenses. Remember that the price (NAV) of bond funds tends to work in inverse proportion to the monthly dividend yield. So I like it when the NAV drops because I can buy new shares cheaply and those shares will generate more money every month. The ultimate bargain basement price on bond funds was back in late 2008 when the price of everything dropped (even though interest rates were not necessarily rising) and I had the chance to buy into one of them at greatly depressed prices.

About a year ago the bond fund prices were on the high side but since then they have fallen and for the first time in a while, the monthly dividend yield has begun to rise a little bit, a good development for me. I don't buy buy bond funds to make money by selling them (I rarely sell them, only in emergencies, so if I make a few bucks on the sales, great, if I lose a few bucks, no big deal), I buy them for the income they generate.

 

[MichaelB]

Here's a recent piece that makes the case that current rates are too high and recommends buying bonds now. Crowding In

In sum, the new-issuance pressure of bonded indebtedness at all government levels is not intense and not of the nature to drive up interest rates. Instead we have crowding in, not crowding out.


Meanwhile, the issue of inflation is being ignored by bond investors. The headline personal consumption expenditure deflator is falling. Market-based priced Core PCE is falling even more. It is trending under 1%. Core CPI is also falling. Producer Price inflation is trending at about 1%. In fact, the case can be made that the collective indicators of price level changes could all trend under at or near 1% sometime in 2014.

 

[retiredatfifty]

I will not put money into bonds at this time. Once we find out for sure if we are moving or not we will either need more cash.....or forget moving and the cash we have will go into stocks/CD type areas. I may adjust my tsp to include more of the G fund however.

I don't think the G-Fund is quite the same thing as buying bonds or even other bond funds.

 

[retiredatfifty]

Propaganda notwithstanding, why would the Fed tighten? There is no sign of an over heated anything on the horizon to cause inflation and other countries continue to try the articiallly manipulate their currency lower.

The only reason I can see them tightening is to deflate a stock market bubble.

Why would they try to deflate a stock market bubble? (hope that's not too "political" of a question)

 

[F4mandolin]

I don't think the G-Fund is quite the same thing as buying bonds or even other bond funds.

I know....it's better.

 

[audreyh1]

Here's a recent piece that makes the case that current rates are too high and recommends buying bonds now. Crowding In

That's kind of how I see things - and which is why I jumped at the chance to buy some 3% CDs which are currently yielding better than some of my high quality intermediate bond funds.

 

[Midpack]

Here's a recent piece that makes the case that current rates are too high and recommends buying bonds now. Crowding In

Good article, thanks. So where do I get "a high-grade, long-term tax-free yield of 5% is obtainable in a very low-inflation environment, we think that bond investors who run from bonds and liquidate them will look back, regret the opportunities they missed, and wonder why they did it" without taking the risk/volatility to match?

 

[audreyh1]

Good article, thanks. So where do I get "a high-grade, long-term tax-free yield of 5% is obtainable in a very low-inflation environment, we think that bond investors who run from bonds and liquidate them will look back, regret the opportunities they missed, and wonder why they did it" without taking the risk to match?

Muni CEFs? But I couldn't live with the volatility. Still, they are on sale right now.

 

[ERhoosier]

I'd also in hindsight you would been much better off with 0% bonds, the returns of BND (total bond market) have been 4.39% over the last 5 years vs 17.97% for VTI, which over 5 years correspond to difference between total 23% return and 228%. You may have slept better with some bonds (I know I did) but that is ton of money to give up for good night sleep.

Ahh yes, hindsight. After the casino's little silver Roulette ball drops I should be kicking myself for not putting my entire nest egg on 29 Black

 

[clifp]

I have been investing in bond funds for more than 20 years. And since I ERed 5 years ago, the monthly dividends from them provide me with more than enough money to cover my expenses. Remember that the price (NAV) of bond funds tends to work in inverse proportion to the monthly dividend yield. So I like it when the NAV drops because I can buy new shares cheaply and those shares will generate more money every month. The ultimate bargain basement price on bond funds was back in late 2008 when the price of everything dropped (even though interest rates were not necessarily rising) and I had the chance to buy into one of them at greatly depressed prices.

About a year ago the bond fund prices were on the high side but since then they have fallen and for the first time in a while, the monthly dividend yield has begun to rise a little bit, a good development for me. I don't buy buy bond funds to make money by selling them (I rarely sell them, only in emergencies, so if I make a few bucks on the sales, great, if I lose a few bucks, no big deal), I buy them for the income they generate.

To me that declining distributions of my bonds funds has been one of the most troubling aspects of the financial crisis. Fortunately bond were never more than 35% of my portfolio. Still lets look at the distributions of one of Vanguard most popular bond fund Vanguard GNMA (Admiral)

Monthly distributions per share
1/2008 .0454
1/2009 .0414
1/2010 .0254
1/2011 .0302
1/2012 .0288
1/2013 .0203
11/2013 .0233

Multiply by 12 and divide ~$10.50 you can see the yield has dropped tremendously.


So seeing that monthly income has been cut almost in 1/2 since the beginning. I would have to conclude that either the bond funds are pretty small portion of your income, or you had a pretty big cushion.

 

[clifp]

Ahh yes, hindsight. After the casino's little silver Roulette ball drops I should be kicking myself for not putting my entire nest egg on 29 Black

I guess the point I am making is that while bond were good to have during the crisis primarily because they didn't drop much during 2008 and started appreciating earlier than stocks. For retirees like myself who's withdrawal are based on how much income our portfolio generate, bond fund weren't particularly useful to have during the crisis. Having my income cut in 1/2 (previous post) is more than I can handle for extended period of time.

I am all for significant amount of fixed income in a retirement, pension, SS, even annuities. Now no fixed income investment would have eliminated the huge impact on retirees income, that war on savers has caused. My question is there any reason to own a bond fund when an alternative fixed income instrument, CD, Stable Value fund, G fund etc. provide an equal or superior yield with a similar duration.

Or more specifically anybody think I should keep the money in the Vanguard GNMA as opposed to get Pen Fed CDs?

 

[haha]

Or more specifically anybody think I should keep the money in the Vanguard GNMA as opposed to get Pen Fed CDs?

I guess the low risk path would be to lose the GNMA fund. But I have never studied GNMAs to see how they work. Is there something about the cash flow characteristics of a GNMA bond that causes it to lose value in a credit crunch. Or is it just from having leveraged funds, and hence funding problems?

I have a fund in which about 1/2 the assets are agency or non-agency MBS. Since May 2013 it has lost some quoted price per share, but the per share distributions have been increasing, not decreasing, and of course with monthly distributions increasing or at least holding steady, my reinvested cash buys more shares. My total return is much better than what I use as a risk free comparator (not a benchmark in the classic sense, just by before the fact estimated hurdle).


Maybe you could explain the behavioral differences from unleveraged investment quality assets of similar duration, and in particular since that was your focus, why these distributions dropped?

Ha

 

[brewer12345]

Or more specifically anybody think I should keep the money in the Vanguard GNMA as opposed to get Pen Fed CDs?

The nasty thing about GNMAs in a volatile rate environment is their significant negative convexity (optionality sold to the borrowers for more coupon). When rates drop, the borrowers refinance and lower the coupon. When rates rise, instead of an estimate of, say, an average 4 year life for your bond you suddenly find that nobody wants to prepay or refi so your expected average life goes to 9 years (with duration making similar moves). Its a heads I win, tails you lose proposition offset by getting more yield than a straight bullet of similar credit quality would offer. In an environment where there is a lot of uncertainty about the size and direction of rate moves, I really do not like the negative convexity of these bonds.

 

[haha]

The nasty thing about GNMAs in a volatile rate environment is their significant negative convexity (optionality sold to the borrowers for more coupon). When rates drop, the borrowers refinance and lower the coupon. When rates rise, instead of an estimate of, say, an average 4 year life for your bond you suddenly find that nobody wants to prepay or refi so your expected average life goes to 9 years (with duration making similar moves). Its a heads I win, tails you lose proposition offset by getting more yield than a straight bullet of similar credit quality would offer. In an environment where there is a lot of uncertainty about the size and direction of rate moves, I really do not like the negative convexity of these bonds.

Brewer, is this what happened to Clifp in the credit crunch? I can't really remember the course of bond yields as we got into that and then came out. I guess all the low payouts he shows recently must be from refinancing of mortgages when rates were low, then holding the low rate mortgages more recently as rates improved. I still am surprised at how awful the result was.

Ha

 

[brewer12345]

Brewer, is this what happened to Clifp in the credit crunch? I can't really remember the course of bond yields as we got into that and then came out. I guess all the low payouts he shows recently must be from refinancing of mortgages when rates were low, then holding the low rate mortgages more recently as rates improved. I still am surprised at how awful the result was.

Ha

Yep, refis and defaults (which result in bad loans getting replaced by cash or good loans) caused the drop in yields as market rates dropped. Now these bonds are under pressure as rates rise and durations extend.