Rungs on the bond ladder

[GravitySucks]

As the equity portion of my IRA grows I have been rebalancing by buying another rung on the bond / CD ladder. Bonds are in Bullet type target date funds.
I now have 8 years of non discretionary expenses layer out the first being accessible in a year and a bit, so 9 years out.
I'm starting to think this is about as far out as I want to go at current rates as even mild inflation erodes purchasing power that far out.
So how do you deal with your bond ladder and time frames?

 

[COcheesehead]

I think the strategy is to always give yourself the option of going long for a higher rate or staying short if you will need the money and be able to do this at regular intervals. You may have 9 years of the value of your expenses, but what are the maturities of the bonds? That is what matters most.

 

[pb4uski]

I have stayed relatively short, principally due to interest rate risk.

I own a number of target maturity bond funds. The thing that I have noticed is that the returns lag during the terminal year because bonds mature throughout the year and proceeds are invested short term so there will be liquidity for the end of year terminal distribution. To avoid this last year of poor returns, I sell about 9 months to a year before the terminal distribution is scheduled to be made. YMMV... but check it out.

 

[COcheesehead]

Can a bond ladder really be effective with funds and not the actual bonds? Aren't you losing the benefit by convoluting multiple bonds such as the terminal issue mentioned above.

 

[pb4uski]

These target maturity bond funds are akin to owing a proportionate interest in a portfolio of bonds that mature in a particular year... substantively similar to owning individual bonds that mature in a particular year but with more diversification in exchange for a 0.10% or 0.24% management fee.

 

[COcheesehead]

These target maturity bond funds are akin to owing a proportionate interest in a portfolio of bonds that mature in a particular year... substantively similar to owning individual bonds that mature in a particular year but with more diversification in exchange for a 0.10% or 0.24% management fee.

That fee plus the terminal year drag on an already comparatively low yielding investment is quite a price. Just buy the bonds. FIDO charges a dollar commission per bond.

 

[pb4uski]

The terminal year drag is easily avoidable.. I just sell a year before the terminal distribution... no problem. The fee is modest and I get more diversification than if I would get buying individual bonds (325 different issuers in my mainstay target maturity fund) and I don't have to spend time trying to design a portfolio and select bonds... worth it for me.

 

[GravitySucks]

That fee plus the terminal year drag on an already comparatively low yielding investment is quite a price. Just buy the bonds. FIDO charges a dollar commission per bond.

Thanks, but that still leaves the original question - How long of a time frame is reasonable?
Early rungs are CDs and individual bonds, but I like the diversification the funds provide and am willing to pay for the convenience. Also, most fixed income is in AGG, not all on the ladder.

 

[COcheesehead]

The terminal year drag is easily avoidable.. I just sell a year before the terminal distribution... no problem. The fee is modest and I get more diversification than if I would get buying individual bonds (325 different issuers in my mainstay target maturity fund) and I don't have to spend time trying to design a portfolio and select bonds... worth it for me.

If it works for you, I applaud your plan.
For others reading the thread, there are bond (and CD) ladder tools at FIDO that help you pick the number of rungs and type of bond to make it a little easier to do on your own.

Cheers!

 

[pb4uski]

I'll have to check that out... but how many different issues would I need to own to be reasonably diversified? and how much is a reasonable amount to own per issuer?

I guess if they are in a tax deferred account then there is no accounting nightmare to be considered.

 

[Svensk Anga]

Using individual TIPS for your rungs 10 years out should be reasonable. Currently you would get about 0.4% interest plus whatever inflation runs over the next ten years. If interest rates go up, it is likely because inflation is heating up, so the inflation adjustment in TIPS will automatically increase your return. However, real interest rates (the 0.4% currently) may increase as bond yields in general increase. This would reduce the market value of a TIPS, but would be of little consequence if you held it to maturity.

When laddering, it is best to have a fairly good idea of how much you will need each year, so you don't have to take the risk of accepting market prices for selling early.

My own ladder is CD's from the highest paying banks out to five years then TIPS out to 10.

 

[hesperus]

That fee plus the terminal year drag on an already comparatively low yielding investment is quite a price. Just buy the bonds. FIDO charges a dollar commission per bond.

+1
Have a significant bond ladder this year, having pulled from some of the bond funds to do this, as well as cash that needed to be put to work. I believe it's worthwhile to go straight bonds if putting in more than $1M, especially if no need to touch the principal. Our bond ladder currently has only a 4.5 yr avg to maturity, however.

 

[COcheesehead]

I'll have to check that out... but how many different issues would I need to own to be reasonably diversified? and how much is a reasonable amount to own per issuer?

I guess if they are in a tax deferred account then there is no accounting nightmare to be considered.

You vary credit quality, duration, etc to get whatever level of comfort you desire. Doing your own ladder probably gives you more diversification because you are not constrained by the funds mission. You can mix muni and taxable, high yield, whatever you want.
I also don't understand the accounting nightmare comment. I download all my data directly into TurboTax. Tax time is pretty easy.

 

[nun]

My approach to this is to use a combo of TIAA-Traditional and a stable value fund. The stable value pays 2% with immediate access and the TIAA-Traditional is paying 4.8%, but I have to spread any withdrawals out over a 10 year period.

 

[brewer12345]

I'll have to check that out... but how many different issues would I need to own to be reasonably diversified? and how much is a reasonable amount to own per issuer?

I guess if they are in a tax deferred account then there is no accounting nightmare to be considered.

Most bond funds include hundreds of different bonds, with maximum concentrations being pretty modest, on the order of 5%. You would have to do a lot of buying if you wanted to replicate it with individual bonds.

I have some lazy cash that just sits around and I don't like the typical bond index funds for a bunch of reasons. Have been checking out FLOT and the Guggenheim 2020 bullet fund. Ruled out the former because it has a 50% exposure to financials (eep). The 2020 fund looks pretty good to me.

 

[pb4uski]

The Guggenheim 2020 fund is one of the ones that I own... my main bond fund. Also own the iBond 2020 version (but less $$). I view both as a lazy alternative to a CD (more credit risk but a tad more return) since I don't care to invest in brokered CDs and open numerous bank accounts for bank CDs (I made an exception for the PenFed 3% deal).

My only knock on them is that in the terminal year they hold the proceeds of maturing bonds in ST paper until the end of the year, which depresses terminal year returns but a simple way to overcome it is to sell about a year before the terminal distribution.

 

[brewer12345]

The Guggenheim 2020 fund is one of the ones that I own... my main bond fund. Also own the iBond 2020 version (but less $$). I view both as a lazy alternative to a CD (more credit risk but a tad more return) since I don't care to invest in brokered CDs and open numerous bank accounts for bank CDs (I made an exception for the PenFed 3% deal).

My only knock on them is that in the terminal year they hold the proceeds of maturing bonds in ST paper until the end of the year, which depresses terminal year returns but a simple way to overcome it is to sell about a year before the terminal distribution.

I am really just looking for a bond fund with positive convexity and not too much duration. The 2020 fund looks about right. As far as holding to maturity, the average bond in the portfolio is trading at 103.XX. Unless I am much mistaken, that means that about 1% a year of the yield is really return of principal if I buy it at today's prices. I need to poke it a bit mentally, but I may have found a home for my lazy portfolio cash.

 

[Huston55]

As the equity portion of my IRA grows I have been rebalancing by buying another rung on the bond / CD ladder. Bonds are in Bullet type target date funds.
I now have 8 years of non discretionary expenses layer out the first being accessible in a year and a bit, so 9 years out.
I'm starting to think this is about as far out as I want to go at current rates as even mild inflation erodes purchasing power that far out.
So how do you deal with your bond ladder and time frames?

I'd expect the answer to this question varies a lot, depending on how each of us uses this portion of our portfolio.

For DW & I, it's our cash stash in case of an extended market decline (reason #2 on a recent thread on this subject IIRC). We keep 4+/- yrs in CDs & a bond fund. Since this $ is in our after-tax accounts, we chose a tax free muni bond fund (FTABX). We've been happy thusfar. And, after comparing FTABX to BSJK, I'd still choose FTABX [significantly better return, slightly less risk historically, higher quality holdings, and essentially the same ER as BSJK).

Regarding the future, FTABX is somewhat sensitive to % rates so, it will be affected by the expected rate increases in the near future. But, it's after-tax return is double BSJK's, it's holdings are much higher quality, and it's holdings duration is intermediate so, again, I'd still choose FTABX over BSJK. But, I'd be interested in recommendations on other holdings for this portion of one's portfolio.

 

[GravitySucks]

Thanks. I think I'll look at the iBond funds PB4uski brought up as an inflation hedge.
Speaking of inflation hedges, I'm going to look up the shelf life of rice and dried bean....

 

[brewer12345]

Thanks. I think I'll look at the iBond funds PB4uski brought up as an inflation hedge.
Speaking of inflation hedges, I'm going to look up the shelf life of rice and dried bean....

Put them in a mylar bag with an oxygen absorber and leave the whole thing in a sealed plastic bucket. Shelf life is practically forever.

 

[Golden sunsets]

As the equity portion of my IRA grows I have been rebalancing by buying another rung on the bond / CD ladder. Bonds are in Bullet type target date funds.
I now have 8 years of non discretionary expenses layer out the first being accessible in a year and a bit, so 9 years out.
I'm starting to think this is about as far out as I want to go at current rates as even mild inflation erodes purchasing power that far out.
So how do you deal with your bond ladder and time frames?

We have established a bond ladder within DH's and my IRA(roughly equal) as well. DH's RMD's start this year and mine start in 2019. So the first bond to mature in DH's IRA later this year, is approximately equal to his required withdrawal and all other bonds maturing in future years are approximately equal to projected RMD's. We just purchased the next rung on the ladder for the year 2026. At this point we will just add one more rung each year. Like Gravity and PB4uski, some of the bonds are in Guggenheim target funds. Others are direct bonds from the issuer. It depends on what is available at the time that we purchase. Our own rule is not to own more than one bond (between our 2 accounts) from any single issuer. One thing I don't like about target date funds in addition to pb's point about final year reduced returns, is the payout does not occur until 12/31 of the target year. So for us, we have to invest in the year prior to the RMD in order for it to be available for the year of the RMD. That reduces returns further. I am hoping that as interest rates rise money market returns increase so that we will get some return for the year that it is in cash. We intentionally don't want to withdraw the RMD until December of the year we are required to as we don't pay any income taxes during the year and will direct our brokerage to withhold our entire State and Federal estimates from that December withdrawal. Our accountant has advised us that this is completely legal. We realize that this plan (owning bonds outright instead of bond funds) subjects us to interest rate risk, however these funds will be withdrawn in their respective maturity years and we sleep well at night knowing that our SWR, which is less than the RMD's is predetermined for the next 9 years. We will invest the excess of RMD less taxes in our taxable accounts. The remainder of our fixed income calculation is in our taxable accounts in Vanguard muni intermediate funds, I bonds and Taxable CD's. As we have no intention of liquidating the VWITX, I worry less about interest rate risk, as the duration of that fund will eventually adjust for rising rates.


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