I hope no one is suggesting that William either sell or convert his I bonds into something else. Since the I bonds are reaching their 5 year anniversary next year, it is likely that William's I bonds are earning a rather high real rate (e.g 3.4%). That's much better than he can get on any maturity of TIPS now. You might hold onto those babies for as long as possible. Though I bonds are as good as cash for liquidation purposes, I would hold onto those I bonds with higher real rates for a long time, and possibly consider them as part of a TIPS allocation.
From
http://www.publicdebt.treas.gov/sav/sbirate2.htm, the real rates on previously issued I bonds.
NOV 1, 2003 1.10%
MAY 1, 2003 1.10%
NOV 1, 2002 1.60%
MAY 1, 2002 2.00%
NOV 1, 2001 2.00%
MAY 1, 2001 3.00%
NOV 1, 2000 3.40%
MAY 1, 2000 3.60%
NOV 1, 1999 3.40%
MAY 1, 1999 3.30%
NOV 1, 1998 3.30%
SEP 1, 1998 3.40%
Though, I wouldn't buy anymore I bonds now.
I agree with Ted in adding TIPS, but I have some reservations on adding that much HY bonds. It's good he pointed out that HY bonds are part equity and part bonds. I think the higher junk credit quality of Vanguard and TC's HY funds makes them around 2/3 bonds, 1/3 stocks, but I think the Fidelity's funds would be more like 1/2 bonds, 1/2 equity (or even less bonds). Although, when things go bad for equities, and correlations increase, the HY funds may become more equity like just when equities are doing terrible (at the wrong time). So, if you are going to add HY bonds, lowering the equity allocation (as Ted suggested), would be the way to do it. Personally, I'd rather keep the equity risk in equities and keep my bonds high quality and inflation protected.
Another consideration may be where you plan on holding the HY bonds. If a taxable account, I would think that keeping the equity risk in equities would be more tax-efficient, as those gains would likely by taxed at lower capital gains rates, rather than ordinary income rates in HY bonds.
Given the recent decline in yields of HY bonds (b/c of the recent runnup), I would think that HY bonds are less attractive than they were, say, a year ago. So, I might limit my allocation to 10% HY. Perhaps I'm just a scared-ee cat. I have also read that HY bonds have high correlations to small cap stocks, in Bernstein's article on them:
http://www.efficientfrontier.com/ef/401/junk.htm
I suppose one could hold b/w 10-15% cash/ST bonds until he/she has reached SS eligibility age to hedge one's bets in case of another major market meltdown b/w then and now.
On the small cap index & small cap value index, there is likely some serious overlap b/w the two. Also, I don't think Vanguard's Small Cap Value index is as value titled as a fund like DFA's small value, and likely includes a lot of small cap blend as well as small cap value. So, if you just want small cap value and blend (and not small cap growth), you could just do one small cap fund, small cap value.
- Alec