Sold some equities last week - changes in AA and Bond Advice?

[stephenson]

Hi All,

Well, I finally got cold feet wrt the equity market and C19.

Background - married, 66, good health, income from military retirement, corporate retirement, non qual plan, couple of rental houses (paid for), MMFs and CDs, waiting on SS. IRA totals about same as taxable accounts. Debt about 50% of current house value (can pay off anytime, but good loan rate).

1. Non-Taxable - was about 90% equities in IRAs. Sold out last week - reduced equities by 50-70%. AA (Equity/Bond/Cash equivalent) now around: 40/20/40. About 14% Roth. Around 80% US and 20% international equities. Short-mid term bond funds, not individual bonds. Numbers are ROMs.
2. Taxable - way out of AA whack as there are pretty significant capital gains to pay - and, haven’t needed, so haven’t sold. AA is now around: 75/3/22. I did buy some equity ETF and individual stocks during the C19 crash (wish I had more), but did want to keep enough living expenses (and mad money) for 5 years or so.
3. NQP - was about 80% equities. Sold out of about 2/3 of equities. AA is now around: 13/0/87. Payout is quarterly.

So, what I did was to play to my concerns about the next year or two. I believe a vaccine will be available and this will alleviate the fear of C19, but there will continue to be financial fallout, and given the current nuttiness (my assessment) in US politics there is likely to be some significant turmoil. I think there will be a situation like occurred in the first few years of the first Obama administration where a lot of people worked really hard to fix things that had been broken. But, clearly all simply me predicting and placing my bets. And, I needed to reallocate, anyway

Given the above, what I would like to do is:
1. Non-Taxable - increase the bond component by pulling from cash, while maintaining the equity component.
2. Taxable - review funds to determine which ones I have paid the highest percentages of NAV increase in dividends already, and which ones have the highest ER, to develop a list of targets to sell out of, converting initially to cash and then placing in bonds/bond funds.
3. NQP - probably hold as is since this is subject to quarterly payments that I use for current income.

Frankly, I need help on the bond component - have never spent much time thinking about bonds and bond funds. I know I can buy individual bonds, but never have - bond funds way easier, obviously. Bond mutual funds or Bond ETFs? Given my relatively high risk tolerance, which would make more sense?

Would appreciate your thoughts.

 

[njhowie]

Now is the time to be extremely careful with the bond component. It's my belief that when investing in bonds or bond funds at this time:

1. Only invest in bond funds if you believe interest rates will hold steady or go lower. If you have any inkling that interest rates will rise, then stay away from bond funds at all costs. It's my belief that you will lose more in loss of principal than you will make in interest/dividends.

2. Buy individual bonds if you intend to hold to maturity, or might sell should interest rates go lower and the value of the bonds go higher. If you need liquidity, then do not opt for individual bonds. Most bonds are currently overpriced (underyielding).

3. Do not chase yield, whether we are talking about individual bonds, or bond funds. If you are seeing a yield significantly higher than others in the category you're looking at, there's a reason, and it's very likely not because the bond or the fund managers are brilliant. It's most likely because the bond carries outsized risks, or the fund managers are taking outsized risks.

4. When interest rates and yields are so low, it's my belief that there is absolutely nothing wrong with sitting in cash. Wait for better times - they will come. Whether we are talking about a liquidity event and spike in interest rates like we saw in March, or we begin to see interest rates rise. Do not lock yourself in to anything low yielding for a long term.

Tread carefully.

 

[pb4uski]

+1 Fixed income is a really tough space right now. Yields are pathetic. And IMO credit risk is bigger than it might appear once this recession takes hold.

I agree with njhowie that there is nothing wrong sitting on cash... and I'm sitting on a lot right now... 40% of my portfolio. I'm trying as best I can to avoid interest rate sensitivity and credit risk. Currently in VSGDX (1.21% SEC yield, 1.2% distribution yield, 1.9 year duration) and even with that I'm not keen on the interest rate risk would like to move to something with less interest rate risk but at this time it's the best looking horse in the glue factory to me... at least in Vanguard's stable.

Another favorite of mine are online savings accounts... FDIC insured so no credit risk and no interest rate risk and pay a whopping 1.01% or so.

Another favorite are credit union CD specials from the likes of Navy Federal, GTE Financial, PenFed, et al... but that ship seems to have sailed in that current rates are a little over 1% for 1 year or and not much more for longer terms.

 

[TechLead]

You can also consider Bond like Stocks. Good example of such company is Coca Cola.

You get high yield with favorable tax rate (as compared to bonds). It may be safer than bonds

As other people mentioned, I would also rather sit on cash than buy todays bonds.

 

[foxfirev5]

I agree with above opinions regarding cash and bonds. My 7 year CD ladder is beginning to fall apart as I am no longer reinvesting maturing issues. While this results in an ever growing pile of cash it doesn't bother me too much due to the pathetic alternatives.

 

[COcheesehead]

Now is the time to be extremely careful with the bond component. It's my belief that when investing in bonds or bond funds at this time:

1. Only invest in bond funds if you believe interest rates will hold steady or go lower. If you have any inkling that interest rates will rise, then stay away from bond funds at all costs. It's my belief that you will lose more in loss of principal than you will make in interest/dividends.

2. Buy individual bonds if you intend to hold to maturity, or might sell should interest rates go lower and the value of the bonds go higher. If you need liquidity, then do not opt for individual bonds. Most bonds are currently overpriced (underyielding).

3. Do not chase yield, whether we are talking about individual bonds, or bond funds. If you are seeing a yield significantly higher than others in the category you're looking at, there's a reason, and it's very likely not because the bond or the fund managers are brilliant. It's most likely because the bond carries outsized risks, or the fund managers are taking outsized risks.

4. When interest rates and yields are so low, it's my belief that there is absolutely nothing wrong with sitting in cash. Wait for better times - they will come. Whether we are talking about a liquidity event and spike in interest rates like we saw in March, or we begin to see interest rates rise. Do not lock yourself in to anything low yielding for a long term.

Tread carefully.

All of this^^^^^

 

[stephenson]

Yep - agree wrt concerns about entering bond market at a time when interest rates are likely to move higher.

During the C19 crashette, I did buy some DOW and T because of price and dividends ... but, this certainly doesn't give any counter to equity market issues, nor, apparently have bonds provided much of this like they once did - and, sure it matters what kind of bond and what maturity factor.

I'm OK with waiting out the time I consider to be of concern, but would sure like to do something with the bucks vice getting 1% ... or, 0,01% in the core account for IRAs! (that 3.5% CD with Navy Federal is going to roll in September ... it was a good deal 18 months ago - but, I was complaining then - things sure have changed!)

 

[Montecfo]

I think bonds are more expensive than stocks.

I'm working on a "third way", thinking you might be able to put together a lower risk group of equities that could make sense in this low rate environment. I think preferreds, convertibles and certain REITs could provide a way to redeploy some of your equity and possibly your longer duration bonds in the middle of the portfolio.

 

[harley]

+1 Fixed income is a really tough space right now. Yields are pathetic. And IMO credit risk is bigger than it might appear once this recession takes hold.

I agree with njhowie that there is nothing wrong sitting on cash... and I'm sitting on a lot right now... 40% of my portfolio. I'm trying as best I can to avoid interest rate sensitivity and credit risk. Currently in VSGDX (1.21% SEC yield, 1.2% distribution yield, 1.9 year duration) and even with that I'm not keen on the interest rate risk would like to move to something with less interest rate risk but at this time it's the best looking horse in the glue factory to me... at least in Vanguard's stable.

Another favorite of mine are online savings accounts... FDIC insured so no credit risk and no interest rate risk and pay a whopping 1.01% or so.

Another favorite are credit union CD specials from the likes of Navy Federal, GTE Financial, PenFed, et al... but that ship seems to have sailed in that current rates are a little over 1% for 1 year or and not much more for longer terms.

I'm also strongly in cash. Along with some of the same options PB4 offers, I am paying off a mortgage to get the equivalent of 3.875% return on the money. And by doing that I'll decrease my debt/income ratio, and should be able to refinance my other mortgage, saving even more. I don't want to pay off both, as I want to keep a significant portion of my cash for later investing. I believe that over the 30 year period (brand new mortgage) I'll significantly beat the <3% rate I expect to have after refinancing.

 

[mrfeh]

Wow, there surely are a lot of people around here w/ crystal balls.

 

[pb4uski]

Wow, there surely are a lot of people around here w/ crystal balls.

Care to elaborate on that?

 

[TechLead]

Wow, there surely are a lot of people around here w/ crystal balls.

If you don't touch your investments and just ride ups and downs you don't need any Crystal ball. Takes very little knowledge as well, but enormous amount of planning and self control.

You will very likely also end up with better returns.

 

[njhowie]

Wow, there surely are a lot of people around here w/ crystal balls.

It's not about having a crystal ball, it's the Boy Scout motto "Be prepared".

 

[kevink]

IMHO the "crystal ball" here is folks forecasting interest rates - specifically saying they have nowhere to go but up from here. But forecasting interest rates is even more of a fool's errand than timing the stock market.

Jonathan Clement's post from yesterday is typically insightful:

https://humbledollar.com/2020/07/my-four-goals/

I was especially glad to see him finally realizing that it makes no sense to hold anything but Treasuries and to ratchet down the duration of his bonds given his high (for his age) equity allocation.

There are also very good arguments (you can go down the rabbit hole on this over on the Bogleheads forums if you like) for going with a Treasury bond "barbell" comprised of equal parts long Treasuries (perhaps using TLT or VGLT) and half T-bills, Treasury MM or a STT fund or ETF. The notion that this would be crazy at today's interest rates reflects a lack of understanding of bond convexity (a concept that many financial professionals also don't understand). Good corrective on that problem here:

https://portfoliocharts.com/2019/05/27/high-profits-at-low-rates-the-benefits-of-bond-convexity/

 

[pb4uski]

Like I said:

+1 Fixed income is a really tough space right now. Yields are pathetic. And IMO credit risk is bigger than it might appear once this recession takes hold.

I agree with njhowie that there is nothing wrong sitting on cash... and I'm sitting on a lot right now... 40% of my portfolio. I'm trying as best I can to avoid interest rate sensitivity and credit risk. ...

From Jonathan Clement's post:

To that end, I’ve taken my already conservative bond portfolio and made it more so. In June, I swapped my intermediate-term inflation-indexed bond fund for a short-term inflation-indexed bond fund, and I sold my short-term corporate fund and replaced it with a short-term government fund. In other words, all my bond money is now in government bonds, and the duration is so short that it’s almost like holding cash investments.

 

[njhowie]

IMHO the "crystal ball" here is folks forecasting interest rates - specifically saying they have nowhere to go but up from here. But forecasting interest rates is even more of a fool's errand than timing the stock market.

Well, I don't know about you, but if we're at zero and the Fed has said multiple times they will not go negative, the extremely high likelihood is that rates will not go negative...which leaves holding steady at zero or going higher.

"Don't fight the Fed" holds here as well.

 

[TechLead]

Well, I don't know about you, but if we're at zero and the Fed has said multiple times they will not go negative, the extremely high likelihood is that rates will not go negative...which leaves holding steady at zero or going higher.

"Don't fight the Fed" holds here as well.

Exactly. Fed also said they are prepared to print as much more money as needed to support economy. (backstop markets)

That may mean inflation noticably above 2%.

Neither one of those things will help to bond returns.

 

[VanWinkle]

Now is the time to be extremely careful with the bond component. It's my belief that when investing in bonds or bond funds at this time:

1. Only invest in bond funds if you believe interest rates will hold steady or go lower. If you have any inkling that interest rates will rise, then stay away from bond funds at all costs. It's my belief that you will lose more in loss of principal than you will make in interest/dividends.

2. Buy individual bonds if you intend to hold to maturity, or might sell should interest rates go lower and the value of the bonds go higher. If you need liquidity, then do not opt for individual bonds. Most bonds are currently overpriced (underyielding).

3. Do not chase yield, whether we are talking about individual bonds, or bond funds. If you are seeing a yield significantly higher than others in the category you're looking at, there's a reason, and it's very likely not because the bond or the fund managers are brilliant. It's most likely because the bond carries outsized risks, or the fund managers are taking outsized risks.

4. When interest rates and yields are so low, it's my belief that there is absolutely nothing wrong with sitting in cash. Wait for better times - they will come. Whether we are talking about a liquidity event and spike in interest rates like we saw in March, or we begin to see interest rates rise. Do not lock yourself in to anything low yielding for a long term.

Tread carefully.

I disagree with #1 above. That is like saying only buy stocks when they are staying steady or going up. The interest rate is unknown just like the future returns of the stock market. You should keep the duration of the bond fund in line with when you will need the money. You will recover from an interest rate hike if you hold the fund for the approximate duration of the underlying bonds. You can use several bond funds to correlate with when the money is needed. 2 years cash, 2 years of short term bonds, 6 years of intermediate. I never step into the long term bonds as my horizon does not include 10-20 years. I held bonds during the rate spike, and then saw rates fall again for a nice gain to principle. This year they said rates couldn't go down, but they did and bond funds have been a great counter to the equities market.

 

[mrfeh]

Care to elaborate on that?

Several posters seem to know where interest rates and/or equities are going over the next year or two.

In other words, market timers.

 

[pb4uski]

I guess that I'm one of them then.

Given that rates are near zero and the Fed has consistently said that they have no interest in going to negative interest rates, then it seems unlikely that they will go down... so the more likely is that they will stay the same or eventually go up. I guess that it is possible that the Fed might change their mind on negative rates, but I doubt they will.

Equities is a harder call, but at today's PE ratios if they stay the same or go up then I'm not particularly interested in playing... I like investing but don't like gambling or betting that some greater fool will come along (though I'll be the first to concede that the Fed has made just about everything other than equities unappetizing).

Luckily, our retirement is funded well enough that I don't need to play, but if it is a fair game then I will.

 

[VanWinkle]

I guess that I'm one of them then.

Given that rates are near zero and the Fed has consistently said that they have no interest in going to negative interest rates, then it seems unlikely that they will go down... so the more likely is that they will stay the same or eventually go up. I guess that it is possible that the Fed might change their mind on negative rates, but I doubt they will.

Equities is a harder call, but at today's PE ratios if they stay the same or go up then I'm not particularly interested in playing... I like investing but don't like gambling or betting that some greater fool will come along (though I'll be the first to concede that the Fed has made just about everything other than equities unappetizing).

Luckily, our retirement is funded well enough that I don't need to play, but if it is a fair game then I will.

I think your choice of VSGDX is a good one given the current yield is not that much different than an intermediate bond fund. Duration of 1.9 is good also. I use VSCSX for short term, but it obviously has more risk.

 

[njhowie]

You will recover from an interest rate hike if you hold the fund for the approximate duration of the underlying bonds.

You want to guarantee that?

 

[kevink]

I guess that I'm one of them then.

Given that rates are near zero and the Fed has consistently said that they have no interest in going to negative interest rates, then it seems unlikely that they will go down... so the more likely is that they will stay the same or eventually go up. I guess that it is possible that the Fed might change their mind on negative rates, but I doubt they will.

This is not only market timing but also a misunderstanding of the Fed's power. They may not want interest rates to go negative, but they're powerless to prevent them from doing so if the market dictates that negative rates are appropriate. It's already happened in other countries that aren't printing money at anywhere near the U.S. rate.

There's an excellent thread on Bogleheads right now in which the OP is asking the same sort of questions as the OP here about Total Bond Market fund as part of the Three Fund Portfolio. Lots of high-quality answers as well as some along the lines of a few posts here reflecting a simplistic understanding of bond returns that looks only at interest paid to maturity.

Among the best comments:

"No one knows nothing. Beginning 2020 no one knew 7.2% returns half way mark for TBM. Especially, after the 9% returns in 2019. While we can run analysis after the fact and speculate on future, both happens in abundance here, what is likely to happen is that everyone will be wrong again, as has been in the past with nearly everyone predicting future bond returns. Predicting future bond returns are one of the most complex things to do in finance, if not the most complex thing to do, yet it is a favorite hobby around here. I will take the returns as they come, along with the protections they provide, and worry about future when it arrives. A balanced portfolio of stocks and bonds will likely produce the best returns that will beat most people trying to make predictions, why would anyone try the alternative? I do not have need to feel in control, and let the capital markets to their thing. I will take what is on offer minus a low expense, and I will again beat most investors trying to speculate."

https://www.bogleheads.org/forum/viewtopic.php?f=10&t=320545

And as an example of "nobody knows nothing" and the value of diversification, here's the YTD returns of the four components of arguably the most diversified defensive portfolio out there, the Permanent Portfolio (25% each Total US Stock Market, 30 Year Treasuries, Treasury MM and Gold):

TLT (Long Term Treasuries) 24.13%
IAU (Gold) 19.24%
BIL (T bills) .42%
VTI (Total US Stock Market) .65%

Delete the "scary" assets that most posters here wouldn't even consider owning and you'd have been better off just sticking the entire pile in an Ally Bank CD account rather than enduring an ulcer-causing roller-coaster ride for nothing.

 

[pb4uski]

This is not only market timing but also a misunderstanding of the Fed's power. They may not want interest rates to go negative, but they're powerless to prevent them from doing so if the market dictates that negative rates are appropriate. ...

No, and it demonstrates the lack of even an elementary understanding of U.S. monetary policy.

Who sets interest rates in the United States?

In the U.S., interest rates are determined by the Federal Open Market Committee (FOMC), which consists of seven governors of the Federal Reserve Board and five Federal Reserve Bank presidents...

The Federal Reserve conducts the nation's monetary policy by managing the level of short-term interest rates and influencing the overall availability and cost of credit in the economy. Monetary policy directly affects short-term interest rates; it indirectly affects longer-term interest rates, currency exchange rates, and prices of equities and other assets and thus wealth. Through these channels, monetary policy influences household spending, business investment, production, employment, and inflation in the United States.

Now I'll be the first to concede that my strategy may not work out... in fact when I sold equities in March I said that it was an educated guess of the future on my part and might not work out... which is why I didn't necessarily encourage others to sell out.... so far it hasn't worked out too well but we are only on the first laps of a long race.

But I thought that this thread was about what to do in the fixed income space.

 

[stephenson]

Good stuff, All!

Now may be a good time for me to jump back in.

I know it SOUNDS like market timing, but, but ... given the timelines I am talking about, the political turmoil, and the pandemic, perhaps it is more of a "return to conservative investment policy" than market timing?

And, my core question, again, is more related to those products to move into with better than MM rates, so as increase the "bonds" component of the usually discussed E/B/C.