Wrestling with bond allocation... again!

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DawgMan

Full time employment: Posting here.
Joined
Oct 22, 2015
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I am a rebalance and clean up my portfolio/AA once a year guy, generally in Dec/Jan, however, I find myself questioning my strategy often during the year as I weigh in on economic/financial/political news and start applying my wizard-like skills in thinking I can build a better mouse trap than my boring 70/30 AA, particularly my bond holdings. I generally succumb and let "Boggle-ism" rule my decisions, but man it is hard hitting the buy button on bonds! However, I took a peak at my bond fund/ETF holdings (Intermediate) and low and behold they are returning 4 - 5% for the year! I have been screaming at myself for about 2 yrs to sell those bastards and sit in cash because they are going to get killed as interest rates rise... so says the Wizard! So yes, I would of have lost my 4 - 5% on my 30% holdings, BUT, here I go again... interest rates have got to start rising (and they have), so is it time to sell those bastards??!!!:facepalm:

Anyone else struggling with this?
 
30% bonds is a relatively small position. You should pat yourself on the back for being so disciplined. If you're unable to let your Bogle-ism carry you to victory, you can consider adding real estate to your mix.
And if interest rates are about to rise, then this would be a good time to purchase durable goods. Has there been something you've wanted for your hobby the past couple of years, but have delayed? A fancy potters wheel or RV? Invest in yourself, you can't take it with you, etc.
 
cooch96 said:
30% bonds is a relatively small position. You should pat yourself on the back for being so disciplined. If you're unable to let your Bogle-ism carry you to victory, you can consider adding real estate to your mix.
And if interest rates are about to rise, then this would be a good time to purchase durable goods. Has there been something you've wanted for your hobby the past couple of years, but have delayed? A fancy potters wheel or RV? Invest in yourself, you can't take it with you, etc.
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Real Estate is already in the mix (not included in my AA, but ranges at times between 5 - 10% of NW, excluding primary residence). I am still a min of 3 yrs from RE, so still in the accumulation mode. It just "feels like" I should be able to make this piece of the AA pie work harder for me with limited more risk. Some might argue bonds do present a more serious short term risk (next few yrs) IF they do finally start rising.
 
DawgMan said:
.... Anyone else struggling with this?
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Not really. I have conceded to focus on mitigating interest rate risk through a combination of PenFed 3% CDs and corporate target maturity bond funds and the last time I looked at it my weighted average duration was 2.6 and weighted average yield was 2.61% (including cash) and my weighted average duration was 3.1 and weighted average yield was 2.83% (excluding cash).

Over the past couple years returns for this low duration approach have lagged a bit (3.6% return for last 12 months vs your 4-5%) but to me it is the cost of interest rate risk mitigation.
 
I have been buying intermediate corporates as individual bonds, so that I know I will get back face value on maturity.
 
DawgMan said:
...So yes, I would of have lost my 4 - 5% on my 30% holdings, BUT, here I go again... interest rates have got to start rising (and they have), so is it time to sell those bastards??!!!:facepalm:

Anyone else struggling with this?
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Yes, it's a constant struggle for me too.

There are two points I'd make. The first one you have heard a lot I'm sure.
1) What do I know that the bond market has not priced in?
2) I don't know the rate at which rates might rise. A slow rise could still give one a decent real return over time. There will be hills and valleys though. A fast rise will get the pain over quickly and then offer the better return going forward.

My guess is we will have a slow rise, maybe 2 quarter point increases per year.
 
Bonds funds and bond ETF's will be a drag on your portfolio for at least the next year. No two ways around it if you want to keep bonds in the mix. The next shoe to drop will be equities, so get used to it.
 
I withdrew everything to cash about two months ago. Two days ago I put 33% back into Total market stock. I'm keeping the balance in cash cause I'm ascared of bond funds.

Can I buy individual bonds in my IRA?
 
Hence... there lies rhe dilemma... take your bond allocation and move to cash waiting for the buy in.... of something. I hate holding cash in less it holds a purpose of buying something. Holding cash as a bond alternative strategicatly feels like...holding cash!!:confused::confused:
 
Hold cash, but diversify it. The Dollar is at high level. Could be a good time to buy other currencies. Gold has traditionally returned about the same as cash. Bitcoins could be another option.

Or just do the boring 30% bonds, and set them up as intelligently as pb4 does.
 
I don't view bonds as helping performance of my portfolio - I view them as helping reduce the impact of stocks performing badly. It's also worth switching mindsets when you have enough to retire. Your bond allocation ensures you remain retired even during a harsh stock market. And then if you have enough to retire, the stocks help keep ahead of inflation and withdrawals.

CDs have begun lagging behind bonds: right now Ally bank offers a 5 year CD at 1.7% versus 2.1% for Vanguard Total Bond. A year ago both were closer to 2%. So I'm starting to think CDs aren't as good an alternative now as a few years ago.

In general different bond funds (short/intermediate/long) price in the same expectation of interest rates / yield. If the intermediate- and long-term bond funds have the same performance if yields go up 0.25%, that's probably the market expectation. But don't expect to be the first person to realize the Fed might raise rates, and sell early. If rates have a 70% chance to rise, that's already priced in - it's the remaining 30% uncertainty that is not reflected. I don't know the actual percentages, but I'm guessing most of the rate rise is already priced in.

With a 5.8 year duration, Vanguard Total Bond Market benefits from any rise in yields / rates after 5.8 years. That's how long the initial drop (-5.8% per +1%) takes to be paid back in higher interest rates. And if bond funds do drop (like last week) you could tax loss harvest the loss while switching to another similar bond fund.
 
It is a tough decision. Another possibility is to maintain all/most of your bond position but hedge by using cash or equities to short bonds.
 
OverThinkMuch said:
With a 5.8 year duration, Vanguard Total Bond Market benefits from any rise in yields / rates after 5.8 years. That's how long the initial drop (-5.8% per +1%) takes to be paid back in higher interest rates.
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Whenever I hear this I think "I'll wait for rates to go up 2% then I'll get back into bond funds".
 
bob boag said:
I withdrew everything to cash about two months ago. Two days ago I put 33% back into Total market stock. I'm keeping the balance in cash cause I'm ascared of bond funds.

Can I buy individual bonds in my IRA?
Click to expand...

What is it about bond funds that scare you?

Yes, you can buy individual bonds in an IRA. If the reason that you want individual bonds is because of interest rate risk, you can also buy target maturity bond funds (a proportional interest in a portfolio of bonds that mature in a target year), which is substantively similar to owning individual bonds but much more diverse.
 
DrRoy said:
I have been buying intermediate corporates as individual bonds, so that I know I will get back face value on maturity.
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Great, as long as your corporation is around to pay off.
 
BND, Vanguard Total Bond Fund, has lost 2.4% in recent days, and 4.3% since its peak in June. Its bond duration is about 6 years, so is that drop reasonable? In other words, is the expected rate increase fully baked in? If it is, then damage has been done, and no point in selling now.
 
NW-Bound said:
BND, Vanguard Total Bond Fund, has lost 2.4% in recent days, and 4.3% since its peak in June. Its bond duration is about 6 years, so is that drop reasonable? In other words, is the expected rate increase fully baked in? If it is, then damage has been done, and no point in selling now.
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interest rates didn't officially go up, but looks like folks are basically pricing in a 0.40 % increase which seems aggressive ( .4% x 6 = 2.4% ).

Hard to see the fund dropping much more, and maybe even go back up a bit, but maybe it's wishful thinking. :blush:
 
intermediate term and longer bonds are falling in value because inflation expectations are getting higher .

there is likely going to be no difference between buying a bond fund that adjusts immediately vs getting back your 1k on an individual bond and losing 1/3 of its purchasing power over the years of an intermediate term bond .

the funds will self adjust if the expectations are not as high as things pan out . in the end it is smoke and mirrors if you think you are any safer with individual bonds . at the end of the day they both will be close enough in value as to not even worry about the difference
 
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OverThinkMuch said:
CDs have begun lagging behind bonds: right now Ally bank offers a 5 year CD at 1.7% versus 2.1% for Vanguard Total Bond. A year ago both were closer to 2%. So I'm starting to think CDs aren't as good an alternative now as a few years ago.
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Although Ally is at 1.7%, there are 3%, 5 year federally insured CDs available now with 6 month penalty. If interest rates rise a lot in the next 1-4 years, one can always take the 6 month penalty hit and lock in at higher rates.
 
comparing the 2 is not apples to apples since if rates continue rising which are likely the bond fund total return will always be behind the curve giving you less . you also have to worry about credit ratings changing effecting your out come with the bond fund .
 
Sunset said:
interest rates didn't officially go up, but looks like folks are basically pricing in a 0.40 % increase which seems aggressive ( .4% x 6 = 2.4% ).

Hard to see the fund dropping much more, and maybe even go back up a bit, but maybe it's wishful thinking. :blush:
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That's taking into account one hike in December. What about the other two, three or four to come? I see a rough road for bonds for awhile. Having said that, I am still 35% bonds and continue to rebalance as necessary. The coupons at least are rising offsetting some of the damage, but I gave back almost a years worth of interest in the last two weeks. :facepalm:
 
NW-Bound said:
BND, Vanguard Total Bond Fund, has lost 2.4% in recent days, and 4.3% since its peak in June. Its bond duration is about 6 years, so is that drop reasonable? In other words, is the expected rate increase fully baked in? If it is, then damage has been done, and no point in selling now.
Click to expand...

Sunset said:
interest rates didn't officially go up, but looks like folks are basically pricing in a 0.40 % increase which seems aggressive ( .4% x 6 = 2.4% ).

Hard to see the fund dropping much more, and maybe even go back up a bit, but maybe it's wishful thinking. :blush:
Click to expand...

2.4% is not bad, but 4.3% from the top hurts. But who's to say that bonds were not overvalued back then? Everything gets overvalued, then comes down to the point it is undervalued, which is of course won't happen for a long time to come yet.

Again, pundits have been warning about bonds for a long time, and they were way too early of course. I remember someone saying that at some point bond holders would have to give back some principal appreciation, the gain that they really did not deserve.

My "superior" memory is failing me again, and I cannot remember who said that. I think I posted a quote here on this forum. A search of the forum, and also the Web failed to find it.
 
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