Bond Funds or Bonds?

[COcheesehead]

No, the opportunity cost is still there with laddering. When your ladder holds a bond yielding less than currently available yields and you hold it to avoid a loss of principal, you still miss the opportunity of the higher coupon bonds you could have switched to.

It just doesn't seem possible to avoid a bit of pain when you hold bonds or bond funds in a rising interest rate environment. You just try to minimize it.

What you are asking for isn’t possible. You want an investment to adjust daily to the market so you don’t have buyer’s remorse. A ladder is the next best thing, at least it gives you fresh funds to reinvest as you wish.

 

[daylatedollarshort]

No, the opportunity cost is still there with laddering. When your ladder holds a bond yielding less than currently available yields and you hold it to avoid a loss of principal, you still miss the opportunity of the higher coupon bonds you could have switched to.

It just doesn't seem possible to avoid a bit of pain when you hold bonds or bond funds in a rising interest rate environment. You just try to minimize it.

+1. Investopedia puts it this way,

• There is virtually zero risk that you will lose principal by investing in T-bonds.
• There is a risk that you could have earned better money elsewhere.

But at least you do get your principal back at maturity, which may or may not be true with bond funds holding similar types of bonds.

 

[youbet]

What you are asking for isn’t possible. You want an investment to adjust daily to the market so you don’t have buyer’s remorse. A ladder is the next best thing, at least it gives you fresh funds to reinvest as you wish.

I didn't ask for anything. And no, I did not say I wanted an investment to adjust daily to the market so I don't have buyer's remorse. Why are you making those things up?

A ladder is a ladder and obviously a useful tool for buffering interest rate risk. I like 'em.

 

[simple girl]

Hindsight being 20/20, I should have done this early 2022, and I would have kept the balance of my fixed income portion up. And I should have definately done it Oct./Nov. 2022 when the returns of my bond funds were = to the returns of the MM fund. But, better late than never, I guess. Time will tell.

I hear ya!!!

 

[youbet]

+1. Investopedia puts it this way,

• There is virtually zero risk that you will lose principal by investing in T-bonds.
• There is a risk that you could have earned better money elsewhere.

But at least you do get your principal back at maturity, which may or may not be true with bond funds holding similar types of bonds.

I'm in full agreement. To the extent the avoided loss of principle exceeds the incremental interest foregone by holding the lower coupon bond, you're ahead. Or, it could work out the other way around.

The advantage of being a disciplined "ladder builder" is that you don't try to figure out individual bond/cd scenarios in rising interest rate markets. You just hold to maturity and replace mechanically avoiding the headache.

I've never owned an index bond fund. I do own some niche bond funds and some have been a success and some very definitely not.

 

[COcheesehead]

Why are you making those things up?

Stop it. If you reread your posts, my response is appropriate. My conversation with you is done,

 

[RunningBum]

No, the opportunity cost is still there with laddering. When your ladder holds a bond yielding less than currently available yields and you hold it to avoid a loss of principle, you still miss the opportunity of the higher coupon bonds you could have switched to. As you say, "you can always flip out of a low yielder." If you do flip, you absorb the capital loss. If you don't flip, you absorb the opportunity cost of holding the lower coupon.

It just doesn't seem possible to avoid a bit of pain when you hold bonds or bond funds in a rising interest rate environment. You just try to minimize it. And certainly some holdings will suffer more than others. (Don't ask me how I know! )

Yes, this is accurate. One advantage I see of holding individual bonds is that you can do some market/interest rate timing and not buy bonds when they were at such low rates. A bond fund probably has to if it has a regular influx of investment money coming in from 401Ks, and from the churning it has to do to keep a certain duration for the bonds it holds.

 

[daylatedollarshort]

Yes, this is accurate. One advantage I see of holding individual bonds is that you can do some market/interest rate timing and not buy bonds when they were at such low rates. A bond fund probably has to if it has a regular influx of investment money coming in from 401Ks, and from the churning it has to do to keep a certain duration for the bonds it holds.

+1. TIPS yields were negative for a year or two before rates came back in 2022. I doubt many individual investors were scooping those up. But a TIPS fund with net inflows wouldn't have the choice to sit on the sidelines waiting for yields to go up.

 

[youbet]

One advantage I see of holding individual bonds is that you can do some market/interest rate timing and not buy bonds when they were at such low rates.

Although it's fun to listen to the stories of some of the folks who claim to be "disciplined ladder builders" always immediately replacing matured bonds on the long end. Then they start to tell you about the exceptions! But I get it.

A bond fund probably has to if it has a regular influx of investment money coming in from 401Ks, and from the churning it has to do to keep a certain duration for the bonds it holds.

I've never owned an index bond fund and don't plan on "learnin' up" on 'em now. I have owned some niche actively managed bond funds and experienced widely varying levels of success including some painful experiences in the past year.

When I purchased ten year, 2.5%, 2029 TIPS a while back, I shoulda backed up the truck...... But here I am, a typical Mr. 60/40 licking my wounds this past year.

 

[Montecfo]

I didn't ask for anything. And no, I did not say I wanted an investment to adjust daily to the market so I don't have buyer's remorse. Why are you making those things up?



A ladder is a ladder and obviously a useful tool for buffering interest rate risk. I like 'em.

Ladder funds are not ladders.

 

[youbet]

Ladder funds are not ladders.

Not sure what ya mean........ Or am I being too dense to get the joke?

 

[Montecfo]

Not sure what ya mean........ Or am I being too dense to get the joke?

I just wanted to say it before some other bond stalwart did.



Of course no fund is exactly what it holds. That is why funds exist.

 

[pb4uski]

I did hear of a new ETF product the other day. It sounded like a bond ladder ETF. They would buy equal parts of, for example, the 2 year Treasury for all outstanding issue dates and then the most current maturity would be reinvested in the next 2 year issuance.

ER was 15 bps IIRC.

 

[daylatedollarshort]

No, the opportunity cost is still there with laddering. When your ladder holds a bond yielding less than currently available yields and you hold it to avoid a loss of principle, you still miss the opportunity of the higher coupon bonds you could have switched to. As you say, "you can always flip out of a low yielder." If you do flip, you absorb the capital loss. If you don't flip, you absorb the opportunity cost of holding the lower coupon.

It just doesn't seem possible to avoid a bit of pain when you hold bonds or bond funds in a rising interest rate environment. You just try to minimize it. And certainly some holdings will suffer more than others. (Don't ask me how I know! )

This chart from Fidelity explains which investments will "protect your principle". When market values change, you may have a lost opportunity cost with investments like individual TIPS, corporate bonds and CDs, to invest for a higher amount, but your principle value, the amount you originally invested, remains unchanged, and there is no capital loss or gain, unless you sell prior to maturity. With most funds, your original investment is based on the NAV price, and the NAV prices are repriced every day to market values.

Compare Income Products - Use this side-by-side comparison of investment features to help determine which fixed income products best fit your needs. - https://www.fidelity.com/fixed-income-bonds/compare-income-products. One of the columns is "Principal preservation and liquidity".

 

[pb4uski]

This chart from Fidelity explains which investments will "protect your principle". When market values change, you may have a lost opportunity cost with investments like individual TIPS, corporate bonds and CDs, to invest for a higher amount, but your principle value, the amount you originally invested, remains unchanged, and there is no capital loss or gain, unless you sell prior to maturity.

Compare Income Products - Use this side-by-side comparison of investment features to help determine which fixed income products best fit your needs. - https://www.fidelity.com/fixed-income-bonds/compare-income-products. One of the columns is "Principal preservation and liquidity".

But it is a zero sum game unless you reinvest the proceeds in a fixed income security that is different from the fixed income security that is different from the one that you sold... either different credit or term or whatever because the future cash flows are no different... so I'm not sure that opportunity cost is really correct.

 

[daylatedollarshort]

But it is a zero sum game unless you reinvest the proceeds in a fixed income security that is different from the fixed income security that is different from the one that you sold... either different credit or term or whatever because the future cash flows are no different... so I'm not sure that opportunity cost is really correct.

You can correct me if I am interpreting this wrong, but I believe this matches what investopedia has to say, "For fixed-income securities, as interest rates rise security prices fall (and vice versa). This is because when interest rates increase, the opportunity cost of holding those bonds increases – that is, the cost of missing out on an even better investment is greater.", https://www.investopedia.com/terms/i/interestraterisk.asp

It is a zero sum game for an investor holding only fixed income with maturity dates, which is also youbet's point. But it is a very important point comparing fixed income investments with and without maturity dates.

 

[Freedom56]

After investors on this forum started buying high grade individual bonds and treasuries at 2 to 3 times what bond funds yield and their capital returned at maturity, I seriously doubt that those who ditched their bond funds in 2022 will ever return to them.

 

[pb4uski]

You can correct me if I am interpreting this wrong, but I believe this matches what investopedia has to say, "For fixed-income securities, as interest rates rise security prices fall (and vice versa). This is because when interest rates increase, the opportunity cost of holding those bonds increases – that is, the cost of missing out on an even better investment is greater.", https://www.investopedia.com/terms/i/interestraterisk.asp

It is a zero sum game for an investor holding only fixed income with maturity date, which is also youbet's point. But it is a very important point comparing fixed income investments with and without maturity dates.

I think that the investopedia article is poorly worded. The decline in the price/value of bonds when interest rates rise is because the bond's contractual cash flows are discounted at a higher discount rate. It's that simple.

I don't view it as having anything to do with opportunity cost, but one might be able to stretch it that far.

 

[youbet]

I think that the investopedia article is poorly worded. The decline in the price/value of bonds when interest rates rise is because the bond's contractual cash flows are discounted at a higher discount rate. It's that simple.

I don't view it as having anything to do with opportunity cost, but one might be able to stretch it that far.

The opportunity cost is the foregone income from holding the bond to maturity to avoid loss of principle.

 

[pb4uski]

The opportunity cost is the foregone income from holding the bond to maturity to avoid loss of principle.

Perhaps, but it is a zero sum game. If you have a bond with a 2% coupon that you bought at par when issued and rates have increased to 4% and the bond's value is lower, if you then sell that bond and immediately buy back the same bond, the at maturity you will have the same amount as if you just held to maturity.

So if that is true then the "opportunity cost" as you define it is equal to the unrealized loss.

 

[youbet]

Perhaps, but it is a zero sum game. If you have a bond with a 2% coupon that you bought at par when issued and rates have increased to 4% and the bond's value is lower, if you then sell that bond and immediately buy back the same bond, the at maturity you will have the same amount as if you just held to maturity.

So if that is true then the "opportunity cost" as you define it is equal to the unrealized loss.

Yep. Just saying that the folks saying that individual bonds have zero risk in a rising interest rate environment are ignoring the fact that they're foregoing increased income when they hold to maturity to avoid principle losses. Nothing you can do about it. But saying you've avoided any actual or lost opportunity costs is naive. When interest rates head on up to the sky, holders of fixed instruments all are sent a message, even if they hold instruments to maturity.......

 

[daylatedollarshort]

Perhaps, but it is a zero sum game. If you have a bond with a 2% coupon that you bought at par when issued and rates have increased to 4% and the bond's value is lower, if you then sell that bond and immediately buy back the same bond, the at maturity you will have the same amount as if you just held to maturity.

So if that is true then the "opportunity cost" as you define it is equal to the unrealized loss.

I think this applies to your question:

"Are realized gains or losses recorded for held-to-maturity debt securities?

If a debt security is classified as held-to-maturity, then the security holder intends to hold the debt security until it matures. Examples of held-to-maturity debt securities includes government securities, corporate bonds, or certificates of deposit (CD). Held-to-maturity debt securities are reported at cost and amortized over the life of the security. Any unrealized gains or losses would not be recorded to the income statement or balance sheet for held-to-maturity debt securities since fair value measurement is not applicable."
Source:https://www.universalcpareview.com/...ecorded-for-held-to-maturity-debt-securities/

The way this applies to this thread is some have stated that the principal value keeps changing when market rise on individual bonds with maturity dates. The market values do change, but the principal values on nominal bonds with maturity dates that are held to maturity do not change in your brokerage statements or on your taxes. On a TIPS bond, the principal changes with the CPI adjustment factor only. On bond funds without maturity dates, the principal values (based on the NAV price) do change daily. On the Fidelity chart in the prior post, they describe this for bond funds, under "principal preservation and liquidity", as "Unlike individual bonds, most bond funds do not have a maturity date, so your principal will fluctuate."

 

[Freedom56]

Many are ignoring the reality that most individual bond holders wait for the right yield and do not lock in low yields and long durations. An individual bond holder would not likely buy at 30 year treasury with a coupon of 1.25% at par but bond funds do. Nor would they lock in .7% coupons for 10 years that a bond fund would buy at par or even higher. Most individual bond holders seek income and when coupon payments are too low, bonds are not investible and they avoid buying them. This applies to CDs, corporates, and treasuries. Just think of all those people today sitting on MM funds yielding 4.5% waiting for better yields versus funds that are buying and selling based on inflows and outflows. Individual bond holders also adapt to the yield curve to balance yield with duration risk. So when comparing bond funds to bonds, keep that in mind. There is a big difference between a bond holder that buys a 5% coupon bond with 5 year duration and a bond fund that buys a 0.55% coupon 5 year bond. As rates rise, obviously both bonds will fall, but the magnitude of the loss of a 5% coupon versus a 0.55% coupon is significant. An individual bond holder can hold the 5% coupon 5 year note to maturity without too much pain. But the vast majority of bond funds do not hold the security to maturity and will never realize the par value at maturity. The losses the fund realizes compounds and contributes to their poor performance and capital loss.

 

[Montecfo]

Many are ignoring the reality that most individual bond holders wait for the right yield and do not lock in low yields and long durations. An individual bond holder would not likely buy at 30 year treasury with a coupon of 1.25% at par but bond funds do. Nor would they lock in .7% coupons for 10 years that a bond fund would buy at par or even higher. Most individual bond holders seek income and when coupon payments are too low, bonds are not investible and they avoid buying them. This applies to CDs, corporates, and treasuries. Just think of all those people today sitting on MM funds yielding 4.5% waiting for better yields versus funds that are buying and selling based on inflows and outflows. Individual bond holders also adapt to the yield curve to balance yield with duration risk. So when comparing bond funds to bonds, keep that in mind. There is a big difference between a bond holder that buys a 5% coupon bond with 5 year duration and a bond fund that buys a 0.55% coupon 5 year bond. As rates rise, obviously both bonds will fall, but the magnitude of the loss of a 5% coupon versus a 0.55% coupon is significant. An individual bond holder can hold the 5% coupon 5 year note to maturity without too much pain. But the vast majority of bond funds do not hold the security to maturity and will never realize the par value at maturity. The losses the fund realizes compounds and contributes to their poor performance and capital loss.

Do you have any proof that only bond fund managers bought and held bonds from 2008-2021 for instance? How could they possibly know what yield is "right". Most of us hold bonds as ballast and expect market returns without needless risk. Nothing more.

You are an avowed holder of individual bonds. What did you hold from 2008 through 2022?

Surely we can move on from this repetition and instead talk about actual differences between bond funds and bonds?

 

[youbet]

Many are ignoring the reality that most individual bond holders wait for the right yield and do not lock in low yields and long durations.

Yet most posters claim they are "disciplined" at maintaining their ladders, always, and without exception ever, immediately replacing matured instruments with new instruments on the long end. Most swear on their grandchildren's graves to this and I would never challenge something like that. If you are a laddering advocate, you replace maturing instruments with new instruments at current yields immediately and without exception. It's well documented in the "laddering guys creed."