Corporate Bond Question

[Culture]

What is your take on bond investments right now with respect to corporate bonds vs. goverment?

I have all of my bonds and cash in vanguard treasury money market, treasury short term bonds and treasury intermediate term bonds. With the "flight to quality," yields are very low (1.5%/1.8%/3.4%).

I figure that bonds have been beat down enough that it is time to switch to investment grade corporate bonds, such as Vanguard Short Term Investment Grade (6.1%) and Vanguard intermediate Term Investment Grade (7.7%). Obviously, I am taking the risk of some future defaults, however the upside is a closing of the yield spread as things level out. proving some capital gains. The vanguard high-yield corporate bond fund (junk) does not look tempting even at 13.2%. Maybe in six months.

I have reviewed this carefully (I think) and it seems like a no-brainer to me. I am planning on moving half of my bonds and cash to these investment grade corporate bond funds. The question that I am asking, is what am I missing? Whether or not your agree with this move, what arguments would your make if you were trying to convince me not to do this? I am taking about moving an amount of money in the low six figures, so I do not want to make a mistake.

Thanks for your help. You guys usually manage to raise at least one point that I have missed.

 

[2B]

Culture,

You raise the right issues. It's risk versus reward. The US Govt prints the money so you'll get paid for the federally issued debt even if they have to create hyper-inflation to pay you. The corporate and even municipal debt is less secure and you get a higher return for giving them your money. I agree there is a great imbalance.

I am very conservative with my cash portion. It's all in FDIC insured accounts. I have some closed end funds that actually invest in high yield bonds, convertibles and preferreds. It's about 5% of my portfolio and I consider it in my "equities" allocation.

 

[socca]

I suggest reviewing the actual bond portfolios of the funds you're considering before investing. After all, this is what you're really buying. If I had done this, I would have invested less in:
+ Vanguard Short-Term Investment-Grade Fund
+ Vanguard Intermediate-Term Investment-Grade Fund
+ Vanguard High-Yield Corporate Fund
For at least one of the funds, the weighting of bonds is so skewed toward the financial sector that it's practically a sector fund (at least from my risk-adverse viewpoint).

I've been tracking all three of these since the 'financial crisis' began, and they have been deteriorating week-by-week without pause. In constrast, VG's muni funds bottomed a few weeks ago and have been rallying nicely (thank goodness).

If I were in your shoes, I'd like to see at least a temporary bottom form before investing. There is something about the current economic climate that makes me think that this isn't just another 'correction'. On the other hand, maybe we will in fact get away with another burst of unsustainable fiscal behavior before being forced to confront our addictions - who knows?

If you'd like more diversification and less risk, you might want to consider VG's Total Bond Market Index fund. I own this, but don't track it. I checked it a few weeks ago, and it was holding up very nicely.

 

[Culture]

Socca,

After looking at the bonds held in the Vanguard investment grade funds, I have decided to move my taxable bonds to vanguard short and intermediate term tax-exempt funds (municipal bonds). This will significantly increase my yields with less risk (i believe) than the Vanguard investment grade funds (but more than the treasuries). I currently do not hold any municipal bonds. I am leaving my bonds in my tax deferred account alone (staying in treasuries).

 

[socca]

Vanguard has two flavors of short-term muni funds: the Short-Term Tax-Exempt Fund and the Limited-Term Tax-Exempt Fund. The Limited-Term generally carries a bit higher yield and thus has a bit more volatility. The Short-Term and Limited-Term Funds have both held up very well through this 'historic' financial crisis. The Intermediate-Term has suffered more than I thought it would, considering the yield differential relative to the shorter term funds. I'm a long-term investor in all three of these, so I really don't care what total return VG reports for these funds. The periods of above-average total return are cancelled by the periods of below-average total return, giving me an average total return that I'm content to collect and reinvest.

Good luck!

 

[Culture]

Socca,

I meant the short and limited terms funds, not the short and intermediate.

 

[socca]

Socca,

I meant the short and limited terms funds, not the short and intermediate.

No problem. There might be some 'wild' investors out there who are monitoring this thread and are willing to creep out further on the yield curve to capture the bounce when the Intermediate-Term Fund gets around to recovering. I've been very satisfied with my substantial investments in VG's Short- and Limited-Term funds.