We are entering a "Golden Period" for fixed income investing

[Freedom56]

Well, I’ve done it. After reading every post in this thread, doing lots of additional research, and meeting with my Schwab rep, I sold my bond fund which is in my IRA. I had to overcome the aversion to selling an investment when it’s down, but I view this as a lateral move for my bond allocation which stops the bleeding. Again, many thanks to Freedom56 for starting this thread, and all the others who have contributed. Here’s my rationale:

1) The bond fund currently yields 2.45%. Although that should slowly increase, that rate is even lower than what Schwab’s MM fund or an online savings account earns. And much less than individual bonds yield.

2) The fund has a duration of 6.4 years. I’ve seen various discussions on when I would recover my paper losses, but it seems the minimum is likely to be that time frame. Perhaps double, depending on interest rates.

3) By selling the fund and investing in individual bonds, after doing the math I should “break even” in about 3 years due to the higher yields.

Since I need some income next year from my IRA, I’m thinking of setting up a ladder of 3, 6, and 12 months. When the 3 month matures, buy another 6 month bond.

Any thoughts or recommendations on smart purchases are greatly appreciated!

Smart move. It's all about simple math. Bonds with durations of 6 year or longer are now yielding 6-8% depending on the rating. You should consider laddering up to three years. The best deals for 2022 are about to arrive starting later this month through the end of the year.

 

[Freedom56]

Freedom; What site do you use to track your watchlist, or is it your own spreadsheet you've designed?

That one is just a Fidelity watch list. You can set those up with any broker.

If you want to see what's going on in the preferred stock universe, see the sheet below:

https://docs.google.com/spreadsheets/d/1M18jyMWV54AAcrks45VgISIgzbxu_7uy23gSJG1Ed80/edit#gid=0

 

[Rianne]

Well, I’ve done it. After reading every post in this thread, doing lots of additional research, and meeting with my Schwab rep, I sold my bond fund which is in my IRA. I had to overcome the aversion to selling an investment when it’s down, but I view this as a lateral move for my bond allocation which stops the bleeding. Again, many thanks to Freedom56 for starting this thread, and all the others who have contributed. Here’s my rationale:

1) The bond fund currently yields 2.45%. Although that should slowly increase, that rate is even lower than what Schwab’s MM fund or an online savings account earns. And much less than individual bonds yield.

2) The fund has a duration of 6.4 years. I’ve seen various discussions on when I would recover my paper losses, but it seems the minimum is likely to be that time frame. Perhaps double, depending on interest rates.

3) By selling the fund and investing in individual bonds, after doing the math I should “break even” in about 3 years due to the higher yields.

Since I need some income next year from my IRA, I’m thinking of setting up a ladder of 3, 6, and 12 months. When the 3 month matures, buy another 6 month bond.

Any thoughts or recommendations on smart purchases are greatly appreciated!

Good move. We did almost exactly what you did back in March. We'll continue to ladder and are thinking of a large treasury purchase in January which will provide cash flow while protecting our principle.

 

[Freedom56]

5 Year GSE now at 5.5% at Fidelity.

 

[Fotodog]

Smart move. It's all about simple math. Bonds with durations of 6 year or longer are now yielding 6-8% depending on the rating. You should consider laddering up to three years. The best deals for 2022 are about to arrive starting later this month through the end of the year.

Thanks Freedom. The reason I’m looking at shorter terms for now concerns the anticipated sale of my condo which I used for my business. I retired in January, and after improvements had my condo on the market in mid March. Here in the Bay Area, the normally red hot housing market had tanked by then. It’s been listed since then with no offers, even after reducing the price.

My plan was to use the equity for living expenses and Roth conversions for several years, but as someone said: “Man makes a plan, God laughs”. If I am able to sell it in the next few months, I will go to longer term bonds. If it doesn’t sell, I might need to keep the maturities shorter since I’ll need some cash for living expenses and don’t want to draw from my stock fund. And I’m starting to consider renting out my condo, which will basically break even after expenses, until the housing market recovers.

 

[MercyMe]

5 Year GSE now at 5.5% at Fidelity.

This is the the one I'm considering.

I heard a guy on a podcast say that GSE's aren't that great because they are all callable. And then the guy said that callable bonds are virtually worthless since they'll get called within a year. I don't care though. I'll take the 5.5 for a year. And since it's exempt from state and local tax (5.75 + 3.0), I think my TEY is just over 6%.

 

[Freedom56]

This is the the one I'm considering.

I heard a guy on a podcast say that GSE's aren't that great because they are all callable. And then the guy said that callable bonds are virtually worthless since they'll get called within a year. I don't care though. I'll take the 5.5 for a year. And since it's exempt from state and local tax (5.75 + 3.0), I think my TEY is just over 6%.

Does the guy on the podcast work for Vanguard? I would rather earn 5.5% risk free for one year than lose another 20-30% in a bond fund as their distributions are lower than money market accounts.

 

[Spock]

This is the the one I'm considering.

I heard a guy on a podcast say that GSE's aren't that great because they are all callable. And then the guy said that callable bonds are virtually worthless since they'll get called within a year. I don't care though. I'll take the 5.5 for a year. And since it's exempt from state and local tax (5.75 + 3.0), I think my TEY is just over 6%.

Not all GSE's are callable. A lot are, but not all. As others have noted a lot of the new CDs are now being issued as callable also. In the fidelity bond/cd search tool you can exclude callable issues if you wish.

 

[TheCaptain67]

This is the the one I'm considering.

I heard a guy on a podcast say that GSE's aren't that great because they are all callable. And then the guy said that callable bonds are virtually worthless since they'll get called within a year. I don't care though. I'll take the 5.5 for a year.

Also have to remember that Fed is said they are going to raise at least two more times. So if the GSE issues any more bonds, those would be most likely at higher rates than the existing and would seem logical that all those would get called first if the decide to call some.

 

[MercyMe]

Also have to remember that Fed is said they are going to raise at least two more times. So if the GSE issues any more bonds, those would be most likely at higher rates than the existing and would seem logical that all those would get called first if the decide to call some.

If that is true, then it's great to hear.

 

[Golden sunsets]

This is a call out to Freedom or other savvy bond gurus.

I'm looking at the difference between buying an instrument with a YTW of 4.5%, at par and a 3 year maturity and a different instrument with a YTW of 4.5%, with a coupon of .3% and a purchase price of 89.5 and a similar 3 year maturity.

My analysis is that, as long as I don't need the income, the bond with the .3% coupon will yield a greater return because the discount which represents the majority of the return will be taxed as a LTCG in the year of maturity. The difference in tax rates( 14% vs 24%) adds an additional return of approximately .44%.

Am I miscalculating or missing anything?

 

[Freedom56]

This is a call out to Freedom or other savvy bond gurus.

I'm looking at the difference between buying an instrument with a YTW of 4.5%, at par and a 3 year maturity and a different instrument with a YTW of 4.5%, with a coupon of .3% and a purchase price of 89.5 and a similar 3 year maturity.

My analysis is that, as long as I don't need the income, the bond with the .3% coupon will yield a greater return because the discount which represents the majority of the return will be taxed as a LTCG in the year of maturity. The difference in tax rates( 14% vs 24%) adds an additional return of approximately .44%.

Am I miscalculating or missing anything?

Unless you get a higher yield for the low coupon instrument, it's not worth buying. The higher coupon note will hold up better as rates rise and if rates start to fall, the higher coupon notes will move up quickly above par and give you the flexibility of closing your position with a gain and investing somewhere else. If the low coupon instrument with the same duration had a YTW of 6% vs par for the 4.5% instrument, I would start to consider the low coupon instrument.

 

[MBSC]

I'm looking at the difference between buying an instrument with a YTW of 4.5%, at par and a 3 year maturity and a different instrument with a YTW of 4.5%, with a coupon of .3% and a purchase price of 89.5 and a similar 3 year maturity.

My analysis is that, as long as I don't need the income, the bond with the .3% coupon will yield a greater return because the discount which represents the majority of the return will be taxed as a LTCG in the year of maturity. The difference in tax rates( 14% vs 24%) adds an additional return of approximately .44%.

Am I miscalculating or missing anything?

The discount is taxed as ordinary interest income unless it meets the "de minimis rule".

(a) Ordinary income
(1) In general

Except as otherwise provided in this section, gain on the disposition of any market discount bond shall be treated as ordinary income to the extent it does not exceed the accrued market discount on such bond.

https://www.law.cornell.edu/uscode/text/26/1276

As a result of this market convention, the IRS takes the position that market discount is really interest to be earned over the remaining life of the instrument (from purchase date to redemption). Since it is considered interest, it is ordinary income, and not capital gain in nature.

...However, the Tax Code permits the taxpayer to recognize the market discount interest income...at the time of sale or redemption....

Market Discount taxation: https://www.hilltopsecurities.com/w...-application-of-the-market-discount-rules.pdf

 

[Freedom56]

Get you "dry powder" ready for the tax loss selling trade. We should see yields rise quickly on the secondary market as funds are forced to dump. The rise will be temporary as active fixed income investors will snap up the bargains just as they have done in the past. The Fed will likely pause after the next two hikes and deal with the deflationary pressures from an enormous inventory overhang. Prices of electronics, apparel, and other goods have started their plunge. Don't be surprises if the Fed stops the quantitative tightening in the coming months. This year will be unlike any other as the passive investing bubble unravels.

 

[lawman]

Get you "dry powder" ready for the tax loss selling trade. We should see yields rise quickly on the secondary market as funds are forced to dump. The rise will be temporary as active fixed income investors will snap up the bargains just as they have done in the past. The Fed will likely pause after the next two hikes and deal with the deflationary pressures from an enormous inventory overhang. Prices of electronics, apparel, and other goods have started their plunge. Don't be surprises if the Fed stops the quantitative tightening in the coming months. This year will be unlike any other as the passive investing bubble unravels.

I've discovered I don't have the stomach for individual corporate debt. I hope the higher yields will extend to C.D's , treasuries and government agencies..

 

[Freedom56]

I've discovered I don't have the stomach for individual corporate debt. I hope the higher yields will extend to C.D's , treasuries and government agencies..

Then buy CDs and government debt.

 

[Chuckanut]

I've discovered I don't have the stomach for individual corporate debt. I hope the higher yields will extend to C.D's , treasuries and government agencies..

It's probably a good idea to avoid rushing into anything new that one does not understand well. We often don't know what we don't know.

You can do a lot worse than building a good ladder of CD's and government issued bills, notes and bonds. Hey, think of the people who invested in Bitcoin earlier this year because its backers claimed it was a 'store of value'.

 

[lawman]

It's probably a good idea to avoid rushing into anything new that one does not understand well. We often don't know what we don't know.

You can do a lot worse than building a good ladder of CD's and government issued bills, notes and bonds. Hey, think of the people who invested in Bitcoin earlier this year because its backers claimed it was a 'store of value'.

I appreciate that. I bought $100.00 worth of Etherum a year or so ago...Didn't want to be left out..

 

[acronymous]

It's probably a good idea to avoid rushing into anything new that one does not understand well. We often don't know what we don't know.

You can do a lot worse than building a good ladder of CD's and government issued bills, notes and bonds. Hey, think of the people who invested in Bitcoin earlier this year because its backers claimed it was a 'store of value'.

[emoji113][emoji20]

 

[ventoux]

I appreciate that. I bought $100.00 worth of Etherum a year or so ago...Didn't want to be left out..

Lawman, I've read through this thread a couple times in the last few weeks. I know you were very excited about moving forward with some purchases and I believe you made a few. But, now you're finding it less appealing is that right? I'm just curious if you can share what now dissuades you from taking part in the individual corporate market?

I'm learning about this market and asking sincerely about your recent experience.

Also, since I'm posting thanks to Freedom56 and all others for the incredible guidance, insight on bond markets.

 

[lawman]

Lawman, I've read through this thread a couple times in the last few weeks. I know you were very excited about moving forward with some purchases and I believe you made a few. But, now you're finding it less appealing is that right? I'm just curious if you can share what now dissuades you from taking part in the individual corporate market?

I'm learning about this market and asking sincerely about your recent experience.

Also, since I'm posting thanks to Freedom56 and all others for the incredible guidance, insight on bond markets.

I can only speak for myself but after buying a couple of corporate issues I realized my risk tolerance is not very high at this point in my life. I've lost so much money on bond funds and emerging market equities that I feel I just can't deal with additional losses..As paranoid as I am I just can't see how this fiat money system we have with debt that amounts to $93,000.00 for every person in this country can continue..I know that if we have a collapse that even government debt will be affected but I have to put my money somewhere..Having lost money on Enron many years ago and going through 2008 I know that anything can happen in the corporate world. That's what kept me in bond funds so long..For the most part if one does exactly opposite of what I do one will probably do just fine..

 

[ventoux]

I can only speak for myself but after buying a couple of corporate issues I realized my risk tolerance is not very high at this point in my life. I've lost so much money on bond funds and emerging market equities that I feel I just can't deal with additional losses..As paranoid as I am I just can't see how this fiat money system we have with debt that amounts to $93,000.00 for every person in this country can continue..I know that if we have a collapse that even government debt will be affected but I have to put my money somewhere..Having lost money on Enron many years ago and going through 2008 I know that anything can happen in the corporate world. That's what kept me in bond funds so long..For the most part if one does exactly opposite of what I do one will probably do just fine..

Understood. Thanks for sharing your thoughts and reasoning.

 

[jldavid47]

Originally Posted by lawman
I've discovered I don't have the stomach for individual corporate debt. I hope the higher yields will extend to C.D's , treasuries and government agencies..

It's probably a good idea to avoid rushing into anything new that one does not understand well. We often don't know what we don't know.

I don't buy individual corporate debt because I do understand it. I believe that risk is not appropriately priced into individual corporate debt at this time and therefore I won't touch it.

 

[daylatedollarshort]

The 80/20 this year has just been not losing 15% in bond funds with 2 - 3% yields and instead making even 4% now in one year Treasuries, while not having to worry about further NAV losses. That spread is 16% and might go higher, while the spread between one year Treasuries and high grade corporates at 5 years is only a percent or two. Which of course still adds up, especially if you have huge amounts of money to invest in fixed income. But not losing the 16% is the key part.

 

[Freedom56]

Fed minutes indicating that they will likely stop when they reach their target Fed funds rate of 4.25-4.6% and hold there for a while. This is consistent with what they have been saying.

The minutes said FOMC members noted it “would become appropriate at some point to slow the pace of policy rate increases while assessing the effects of cumulative policy adjustments on economic activity and inflation.“

They said that time would come after the fed funds rate had “reached a sufficiently restrictive level,” after which “it likely would be appropriate to maintain that level for some time until there was compelling evidence that inflation was on course to return to the 2 percent objective.“

The summary of economic projections at the meeting pointed to a “terminal rate,” or end point of rate increases to be around 4.6%. Markets expect the Fed to hike into early 2023 then keep rates there through the year.


https://www.cnbc.com/2022/10/12/fed-minutes-october-2022.html

So what does that mean? The "golden period" will continue through 2023 and if they hold rates at their projected terminal rate until inflation comes back down to 2%, it will likely continue through 2024 and beyond. Keep in mind they are also in quantitative tightening mode now and could stop or transition to quantitative easing without lowering rates. So all those high grade callable bonds issues with coupons of 4.5-5% will not likely be called for the next two years. Remember the market discounts the future. Also with $31T in debt, it will become more expensive to re-finance this debt. So we are reaching the terminal point of rate increases and the bond market is quickly discounting this.