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Stable fund vs 40/60 conservative Vanguard RE fund
Old 01-23-2020, 05:58 PM   #1
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Stable fund vs 40/60 conservative Vanguard RE fund

I need some advice...
I am very close to FIRE, and it makes sense for me to move my investments to a more conservative model. For good reasons, my funds will need to be in my company 401K account (potential early access at 55 etc.), and I would like to move quite a bit of $ into short term funds. The issue is the Stable fund in my 401K account is bad (basically ~1%/yr return with a 0.5% yearly fee). A conservative Vanguard fun is also available at 0.08% yearly fee (Vanguard retirement 2015). I like this fund because the bond portfolio has the lowest Weighted Avg Maturity 0f 7.43 years and Duration of 5.92 years. I don't want bonds that will move a lot with interest rate hike. Will these duration/maturity good enough for that?
My question is: am I being unrealistic thinking that the above 40/60 stock/bond fund with mid-duration bonds can replace my short term cash account? If there is some level of protection from the above fund, then I would rather take that given that the Stable fund will just give me close to 0% gain for sure.
Thanks for all comments.
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Old 01-23-2020, 06:14 PM   #2
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IMHO, 40/60 is way too conservative for an ER at 55. Inflation could be the boogie man that gets you. Vanguard's most aggressive recommended AA is 65/35/0. To know whether you can survice with such an AA over a 45-year period, have you put your AA into FIRECALC?

Mine, at T-3 months, is 83/7/10.
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Old 01-23-2020, 06:22 PM   #3
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With a 5.92 duration, if interest rates increase 1% the bond portion of the fund would decline 5.92% and if interest rates increased 2% then the bond portion of the fund would decline 11.84%. OTOH, in theory anyway, if interest rates are being increased it would be because the Fed believes that the economy is in good shape so that would be good for stocks and increases in equities should offset any declines on the bond side... the old when stocks zig bonds zag. Problem is that it doesn't always work that way but it does more often than not.

If 40/60 is your choice then do that and if things change rebalance to 40/60 occasionally. During the great recession a 40/60 portfolio declined about 19%, but recovered quickly... in less than a year.

https://www.portfoliovisualizer.com/...location2_1=60
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Old 01-23-2020, 06:36 PM   #4
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Originally Posted by ut2sua View Post
My question is: am I being unrealistic thinking that the above 40/60 stock/bond fund with mid-duration bonds can replace my short term cash account? If there is some level of protection from the above fund, then I would rather take that given that the Stable fund will just give me close to 0% gain for sure.
Thanks for all comments.
Yes, you are being unrealistic in your thinking. A mid-term bond fund is not a short term cash account replacement. Closest you'd get not being in CDs, money market, or stable value is an ultra-short-term bond fund/ETF, where average maturity is under a year...sometimes they come in at only 3 to 6 months.

Now, given the parameters you're working with, maybe the 40/60 is sufficient for the overall investment objective, of ratcheting down the risk. Absolutely spot-on for that. However, "cash" is very narrow, and it should be, as there is (virtually) no risk of loss of principal.

Despite what others may tell you, there is nothing wrong with 40/60, or even more conservative, regardless of your age, if that is what you are comfortable with.
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Old 01-23-2020, 06:36 PM   #5
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Originally Posted by HNL Bill View Post
IMHO, 40/60 is way too conservative for an ER at 55. Inflation could be the boogie man that gets you. Vanguard's most aggressive recommended AA is 65/35/0. To know whether you can survice with such an AA over a 45-year period, have you put your AA into FIRECALC?

Mine, at T-3 months, is 83/7/10.
HNL Bill, the 40/60 is replacing my short term $ only. I am not putting all my $ into this account. Thanks for your comment.
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Old 01-23-2020, 06:50 PM   #6
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HNL Bill, the 40/60 is replacing my short term $ only. I am not putting all my $ into this account. Thanks for your comment.
In that case, 40/60 is not a suitable substitute for a stable value fund... just look at the graph in post #3 for an illustration of why.
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Old 01-23-2020, 06:52 PM   #7
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With a 5.92 duration, if interest rates increase 1% the bond portion of the fund would decline 5.92% and if interest rates increased 2% then the bond portion of the fund would decline 11.84%. OTOH, in theory anyway, if interest rates are being increased it would be because the Fed believes that the economy is in good shape so that would be good for stocks and increases in equities should offset any declines on the bond side... the old when stocks zig bonds zag. Problem is that it doesn't always work that way but it does more often than not.

If 40/60 is your choice then do that and if things change rebalance to 40/60 occasionally. During the great recession a 40/60 portfolio declined about 19%, but recovered quickly... in less than a year.

https://www.portfoliovisualizer.com/...location2_1=60
Thanks pb4uski. "if rate increases by 1%" <- should I understand this as interest rate increase from, say 2% to 3%, or should I take it as from 2% to 2.01%? It must be the former right? If so, my risk would tend to be limited to around 1% per year (and not 10%)
I like your formula (even though I haven't work out the math in my head). This is exactly what I was looking for to estimate my risk.
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Old 01-23-2020, 06:55 PM   #8
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How much of your money is this. Many people hold 2-4 years cash in a savings account, granted your SV fund is lower but could you split the difference? Couple years SV, couple years 40/60?
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Old 01-23-2020, 07:04 PM   #9
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Originally Posted by njhowie View Post
Yes, you are being unrealistic in your thinking. A mid-term bond fund is not a short term cash account replacement. Closest you'd get not being in CDs, money market, or stable value is an ultra-short-term bond fund/ETF, where average maturity is under a year...sometimes they come in at only 3 to 6 months.

Now, given the parameters you're working with, maybe the 40/60 is sufficient for the overall investment objective, of ratcheting down the risk. Absolutely spot-on for that. However, "cash" is very narrow, and it should be, as there is (virtually) no risk of loss of principal.

Despite what others may tell you, there is nothing wrong with 40/60, or even more conservative, regardless of your age, if that is what you are comfortable with.
Njhowie. Yes. Thanks for clearing my head with your strong "cash" definition. My initial intention was to have some (short term) cash available (as part of my pre-tax-fund-withdrawal portion of my total needed income) to live off of for x years, so I don't have to worry about the gain/lost of the rest of my portfolio. Your other points all made sense to me too.
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Old 01-23-2020, 07:12 PM   #10
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Originally Posted by ut2sua View Post
Thanks pb4uski. "if rate increases by 1%" <- should I understand this as interest rate increase from, say 2% to 3%, or should I take it as from 2% to 2.01%? It must be the former right? If so, my risk would tend to be limited to around 1% per year (and not 10%)
I like your formula (even though I haven't work out the math in my head). This is exactly what I was looking for to estimate my risk.
Yes, the former.... from 2%, a 1% increase would be to 3%. Your risk is much more than 1%.

So if in 2020 bond interest yields increased from 2% to 4%, your bond fund would go down 11.84% so what was $100K would be $88k.... if bond interest yields increased from 2% to 3% your $100k would become $94k.

Interest rate risk.
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Old 01-23-2020, 07:14 PM   #11
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How much of your money is this. Many people hold 2-4 years cash in a savings account, granted your SV fund is lower but could you split the difference? Couple years SV, couple years 40/60?
Thanks for asking MRG. For my own peace of mind, I am thinking of having roughly $40k/yr * 6 years = 240k put into this "short term" fund. This will allow me to withdraw $40k/yr from my pretax account post RE. Other taxable $ will make up the rest of my needed budget. I like your suggestion. May be I will do just as you have suggested. I am notoriously more nervous than folks who have FIREd successfully for sure. Doing this will calm me and DW down as we know where exactly the $ will come from in our first x number of years after RE.
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Old 01-23-2020, 07:19 PM   #12
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Yes, the former.... from 2%, a 1% increase would be to 3%. Your risk is much more than 1%.

So if in 2020 bond interest yields increased from 2% to 4%, your bond fund would go down 11.84% so what was $100K would be $88k.... if bond interest yields increased from 2% to 3% your $100k would become $94k.

Interest rate risk.
Yes. Thanks for the explanation bp4uski. I believe for long term bonds, a rate increase from 2% to 4% would cut the bond fund value by half(?) This is why long term bonds are a bit scary to me.
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Old 01-23-2020, 07:32 PM   #13
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Yes. Thanks for the explanation bp4uski. I believe for long term bonds, a rate increase from 2% to 4% would cut the bond fund value by half(?) This is why long term bonds are a bit scary to me.
No. Think of it this way... for each 1% change in interest rates, the bond fund value will be the change in interest rates times minus the duration.

So if the duration is 5.92 and the interest rate change is +1% then the change in the value of the fund would be -5.92% (+1%*-5.92).

So if the interest rate increased from 2% to 4% that is a +2% change so the change in the value of the bonds would be -11.84% (+2%*-5.92).... not anywhere near half!
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Old 01-23-2020, 07:42 PM   #14
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No. Think of it this way... for each 1% change in interest rates, the bond fund value will be the change in interest rates times minus the duration.

So if the duration is 5.92 and the interest rate change is +1% then the change in the value of the fund would be -5.92% (+1%*-5.92).

So if the interest rate increased from 2% to 4% that is a +2% change so the change in the value of the bonds would be -11.84% (+2%*-5.92).... not anywhere near half!
But for a 30 year bond (long term) 2%*-30 = -60% then? If so this is more losing half the bond value. Right? Cheers!!!
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Old 01-23-2020, 07:48 PM   #15
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No. Think of it this way... for each 1% change in interest rates, the bond fund value will be the change in interest rates times minus the duration.

So if the duration is 5.92 and the interest rate change is +1% then the change in the value of the fund would be -5.92% (+1%*-5.92).

So if the interest rate increased from 2% to 4% that is a +2% change so the change in the value of the bonds would be -11.84% (+2%*-5.92).... not anywhere near half!
pb4uski, your math makes lots of sense to me now. If I have a long term bond (say 30 years bond), and interest goes up by 2%, I would lose 2% for each of the 30 years. So I am losing 60% of total interest during the 30 years. Now I just don't understand how inflation gets factor into that equation
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Old 01-23-2020, 09:22 PM   #16
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But for a 30 year bond (long term) 2%*-30 = -60% then? If so this is more losing half the bond value. Right? Cheers!!!
No. Your are confusing term with duration. Duration is shorter than term.

Quote:
The effective duration of a 30-year Treasury is about 21 years, while it's about 8.7 years for a 10-year Treasury
From your OP:
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....I like this fund because the bond portfolio has the lowest Weighted Avg Maturity 0f 7.43 years and Duration of 5.92 years. ...
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Old 01-23-2020, 10:20 PM   #17
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No. Your are confusing term with duration. Duration is shorter than term.



From your OP:
You are correct. I got confused between the two. I got it now. Thanks.
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