What's so bad about bond funds?

[RetireAge50]

So, is the majority of thought is to drop the portfolio theory of maintaining 20-30% in bonds? If so, should you be 100% in stocks, or 20-30% in cash?

This is what we did, now 76% stocks. Our near term and gap to SS is filled with CD’s and stable value (24% of portfolio).

 

[2177V]

Corporate bond ratings are much like the mortgage bond ratings of 2008.

This statement by thepalmersinking is absolutely correct.

A 2019 report indicates that due to over leveraging by some companies, some bond ratings should be downgraded to reflect the additional risk of over leveraging by these companies. Read the following link:

https://www.advisorperspectives.com...nds-could-be-a-repeat-of-the-sub-prime-crisis

This means an AA bond should be a A bond. This also mean the investor is being screwed because he is expecting the safety of a AA bond with low yield... but it is really getting a A bond and he is not earning the higher yield of an A bond. This also affects investors of certain bond index funds which has corporate bonds as part of their portfolio. The similarity with the mortgage ratings on 2008 scares the heck out of me.

The reason why a bond crash has not occur is because the fed is buying corporate bonds! This is propping up the bond market which in turn propping up the stock market. A house of cards ready to fall but that is my opinion. I do not feel comfortable having the fed manipulate the markets artificially because the fed can not manipulate the market permanently. There are limits on how much the fed can spend to prop up the markets.

In my case, I am mostly in treasuries such as VUSUX. If the US go bankrupt and the dollar becomes worthless, then will I be in trouble with my treasuries. However, so will everyone else.

 

[OldShooter]

... https://www.advisorperspectives.com/articles/2019/05/15/gundlach-corporate-bonds-could-be-a-repeat-of-the-sub-prime-crisis ...

Gundlach runs mutual funds. What you can know about his published opinions is that to the extent that he can get people to believe him, he will make money. I don't really have a dog in this fight, but I would certainly suggest avoiding opinions that are almost certain to be self-serving.

 

[tulak]

My own point of view is to have enough in stable investments (cash, CD's, annuities, etc.) so that when the stock market takes a dive, you don't panic, sell at or near the bottom, never get back in, and lose all the long term benefits of stocks.

This is my strategy. I don't have a fixed stock/bond ratio. My FI needs to get me through 10 years on barebones income. Everything over that, I invest in equities.

Back to OP, I wouldn't risk substituting bonds with equities. I agree that you'll probably come out ahead with a good dividend payer ETF (I like SCHD). But what happens if we are in a prolonged downturn in equities? I still need to pay bills, so I sleep better knowing I have sufficient FI. After that, lets see if I can run up the numbers!

 

[Retireby45ish]

I'm in asset preservation mode... hunkered down for the storm.

On the fixed income side, I'm focused on managing interest rate risk and credit risk. I'm currently 53% in CDs yielding 3.3% on average... no interest rate risk or credit risk. Next largest holding is 25% parked in VSGDX passing time to be redeployed into something... again, no interest rate risk or credit risk.

My most daring fixed income investments that I have are preferred stocks, about 13% of the total. Mostly investment grade preferreds, yielding about 5.8%.

I also have about 2% in CSV of life insurance, 3% in cash and 4% in SWAN. I tentatively plan to gradually sell VSGDX and buy SWAN towards an eventual 30/70 AA.... 30% SWAN and 70% fixed income (mostly CDs and investment grade preferreds and baby bonds).

Do you say VSGDX has “no interest rate risk” because the duration is so short? Surely if rates went up this fund would go down too right?

I’m still sitting on some cash (earning 0.05 in a MM account) that I’d move into this if I could earn the 1.5% yield and have no interest or credit risk.

I’d agree it probably has little risk but just checking...

 

[pb4uski]

I agree... no interest rate risk isn't right... little interest rate risk would be more accurate. Average duration is 2.2 years.

 

[USGrant1962]

...

The reason why a bond crash has not occur is because the fed is buying corporate bonds! This is propping up the bond market which in turn propping up the stock market. A house of cards ready to fall but that is my opinion. I do not feel comfortable having the fed manipulate the markets artificially because the fed can not manipulate the market permanently. There are limits on how much the fed can spend to prop up the markets.

...

Well the corporate bond market is something like $9 trillion with a T. So if the Fed prevented a bond crash by buying only ~$12.4B through last month, good for them! They are authorized up to $750B, so a long way from any "limits". See Table 2 here https://www.federalreserve.gov/publications/files/balance_sheet_developments_report_202008.pdf.pdf.

One article I read said the Fed all but quit buying corporate bonds in July after just the idea of Fed bond buying stabilized the bond market.

 

[Retireby45ish]

I agree... no interest rate risk isn't right... little interest rate risk would be more accurate. Average duration is 2.2 years.

Thanks.

Unfortunately I’m with fidelity so vanguard funds are off limits...so would VGSH ETF be similar? It looks it from a duration and expense ratio.

But the SEC yield Is 0.11%. That’s a yearly yield or 30 day? If yearly then it’s not even worth it. If yearly that might seem worthwhile.

 

[lucky penny]

This statement by thepalmersinking is absolutely correct.

A 2019 report indicates that due to over leveraging by some companies, some bond ratings should be downgraded to reflect the additional risk of over leveraging by these companies. Read the following link:

https://www.advisorperspectives.com...nds-could-be-a-repeat-of-the-sub-prime-crisis

This means an AA bond should be a A bond. This also mean the investor is being screwed because he is expecting the safety of a AA bond with low yield... but it is really getting a A bond and he is not earning the higher yield of an A bond. This also affects investors of certain bond index funds which has corporate bonds as part of their portfolio. The similarity with the mortgage ratings on 2008 scares the heck out of me.

The reason why a bond crash has not occur is because the fed is buying corporate bonds! This is propping up the bond market which in turn propping up the stock market. A house of cards ready to fall but that is my opinion. I do not feel comfortable having the fed manipulate the markets artificially because the fed can not manipulate the market permanently. There are limits on how much the fed can spend to prop up the markets.

In my case, I am mostly in treasuries such as VUSUX. If the US go bankrupt and the dollar becomes worthless, then will I be in trouble with my treasuries. However, so will everyone else.

OP here, still following the comments & exploring the alternatives mentioned. Looked up VUSUX -- what could be safer than US treasuries? -- but see that Vanguard rates it as "moderate risk", compared with VFSUX (which I have), which is categorized as "low risk." Why??

Appreciate all the responses here. Thanks for all the information & for sharing your perspectives.

 

[RunningBum]

OP here, still following the comments & exploring the alternatives mentioned. Looked up VUSUX -- what could be safer than US treasuries? -- but see that Vanguard rates it as "moderate risk", compared with VFSUX (which I have), which is categorized as "low risk." Why??

Appreciate all the responses here. Thanks for all the information & for sharing your perspectives.

Long term vs short term. There's less interest interest rate risk with shorter term bonds.

 

[2177V]

Long term vs short term. There's less interest interest rate risk with shorter term bonds.

RunningBum's reply is the correct answer to Lucky Penny's question.

Long term treasuries such as VUSUX (long term treasuries) are more volatile than short term treasuries and therefore has more risk but also have more reward.

I have both short term and long term treasuries because I use short term treasuries to lower my risk while I use long term treasuries to maximize my reward. Currently equities exceeds my risk tolerance so I am mostly in treasuries. I will probably go back to equities after the pandemic or after we have lower unemployment and/or a better economy. I prefer a capital preservation portfolio in uncertain times since my reward from VUSUX is sufficient for me for the time being.

A typical treasury portfolio may consist of 60% VUSUX/40% VFINX which is somewhat similar to a 60% equities /40% bond portfolio...except the former portfolio has less risk overall than the latter portfolio in the short term. In the long term, the reverse is true. Balancing out your higher risk investments (equities or VUSUX) with lower risk investments (bonds or VFINX) make sense to some investors.

Everyone has a different investment style, time horizons and risk tolerances. What matters is whatever risk versus reward tradeoff that you feel comfortable with.

 

[rkser]

Another novice here in understanding in all the implications of Bond investments - We have significant Intermediate Bond Fund Investments & looking for pointers to learn & make any changes -

I am 64, overall AA is 55/45, have 3 Bond Funds in an 5 Fund all vanguard Portfolio, plan to withdraw from the Bonds for next 15 years starting in 2 years & leave the taxable VTSAX & VTIAX for later in retirement or for the next generation.

Bond Portfolio - is 66% in TaX Deferred in VBTLX & VTABX 80%/20% & 34% in taxable in Tax Exempt Intermediate Fund VWIUX.

I am thinking of keeping VBTLX (in Tax Deferred) for the present till the FED starts raising the rate till whenever they decide to (2 yrs??) & then move to Short Term Bond Funds.

I have noted they usually raise the rate in 0.25% increments (& not in 1% increments) giving me time to make the change, although I would have taken some loss in the capital price of Bonds by the time I make the change.

Is this a too simplistic view/plan full of holes in the plan or is this a reasonable way ?? Market timing yes but I do not see any other way to avoid a major loss/blood bath in the funds which will fund our retirement living expenses.

Your thoughts/suggestions ?? with thanks

 

[Markola]

So, is the majority of thought is to drop the portfolio theory of maintaining 20-30% in bonds? If so, should you be 100% in stocks, or 20-30% in cash?

There is not likely a majority opinion and, even if there was, the only thing that matters is the asset allocation that works for your situation and risk tolerance. Unfortunately, most people can’t know their risk tolerance before they’d lived through a few stock market swan dives.

After being much more aggressive in my career years, I find that in early FIRE and with chaos abounding in the world, I sleep best with 50/50.

 

[2177V]

I'm in asset preservation mode... hunkered down for the storm.

I am also in an asset preservation mode.

I have two reasons for this:

1. During the 1929 crash, the banks tried to prop up the market by buying shares. The banks failed to prop up the market because the market selling was stronger. Currently, the fed is propping up the markets. Time will tell if the fed is stronger than any significant market forces that turns negative. I see similarities......and I am not going to risk my nest egg to find out.

2. 2020 is a crazy year and an election year at that. I ask the question to myself: "What if...... there is no peaceful transfer of power?" Again, I am not to to risk my nest egg to find out.

 

[2177V]

Another novice here in understanding in all the implications of Bond investments - We have significant Intermediate Bond Fund Investments & looking for pointers to learn & make any changes -

I am 64, overall AA is 55/45, have 3 Bond Funds in an 5 Fund all vanguard Portfolio, plan to withdraw from the Bonds for next 15 years starting in 2 years & leave the taxable VTSAX & VTIAX for later in retirement or for the next generation.

Bond Portfolio - is 66% in TaX Deferred in VBTLX & VTABX 80%/20% & 34% in taxable in Tax Exempt Intermediate Fund VWIUX.

I am thinking of keeping VBTLX (in Tax Deferred) for the present till the FED starts raising the rate till whenever they decide to (2 yrs??) & then move to Short Term Bond Funds.

I have noted they usually raise the rate in 0.25% increments (& not in 1% increments) giving me time to make the change, although I would have taken some loss in the capital price of Bonds by the time I make the change.

Is this a too simplistic view/plan full of holes in the plan or is this a reasonable way ?? Market timing yes but I do not see any other way to avoid a major loss/blood bath in the funds which will fund our retirement living expenses.

Your thoughts/suggestions ?? with thanks

My thoughts/suggestions:

See a Certified Public Accountant which cost about $75 to $200 for one hour of consultation on your withdrawal strategy. A mistake on your part during your withdrawal can easily exceed the consultation cost of a CPA.

For example: Some people withdraw from their taxible accounts first until they reach a certain tax threshold....and then make up the difference with withdrawals on the tax free accounts.

CPA knows all the loop holes in the tax system and my own personal experience with CPA has been positive.

Be aware that leaving the taxible accounts to the next generation is a noble thing to do but then the tax liability is also transferred. If the next generation has a high tax rate... and during your retirement you are in a low tax rate, then you should consider all options.

Remember a CPA recommendations are just that and you make the final decision. However, you should be in a position to make an "informed" decision.

I do agree with you on moving VBTLX into short term bond funds when the fed start raising interest rates. This is because "price and yield of bonds moves in opposite direction". Higher interest rates = lower bond prices so moving into shorter term bonds funds is a sound strategy to avoid a decline in bond prices for the longer term bonds that are part of VBTLX.

 

[RunningBum]

Be aware that leaving the taxible accounts to the next generation is a noble thing to do but then the tax liability is also transferred. If the next generation has a high tax rate... and during your retirement you are in a low tax rate, then you should consider all options.

That's flat out wrong. Taxable holdings get stepped up basis upon inheritance. Maybe that will change in the future, maybe not.

 

[pb4uski]

....See a Certified Public Accountant which cost about $75 to $200 for one hour of consultation on your withdrawal strategy. A mistake on your part during your withdrawal can easily exceed the consultation cost of a CPA.

For example: Some people withdraw from their taxible accounts first until they reach a certain tax threshold....and then make up the difference with withdrawals on the tax free accounts.

CPA knows all the loop holes in the tax system and my own personal experience with CPA has been positive. ...

Retirement planning and withdrawal strategies are a very small niche in what CPAs do (I was a CPA for almost 35 years). Most CPAs are in corporate accounting, or audit or corporate tax. Some are individual tax practitioners but still not very focused on retirement withdrawal strategies.

If you can find a CPA with a PFS designation (Personal Financial Specialist) then it is more likely that a CPA will be helpful. This link is a place to start.

https://account.aicpa.org/eWeb/dynamicpage.aspx?webcode=referralwebsearch

 

[VanWinkle]

Another novice here in understanding in all the implications of Bond investments - We have significant Intermediate Bond Fund Investments & looking for pointers to learn & make any changes -

I am 64, overall AA is 55/45, have 3 Bond Funds in an 5 Fund all vanguard Portfolio, plan to withdraw from the Bonds for next 15 years starting in 2 years & leave the taxable VTSAX & VTIAX for later in retirement or for the next generation.

Bond Portfolio - is 66% in TaX Deferred in VBTLX & VTABX 80%/20% & 34% in taxable in Tax Exempt Intermediate Fund VWIUX.

I am thinking of keeping VBTLX (in Tax Deferred) for the present till the FED starts raising the rate till whenever they decide to (2 yrs??) & then move to Short Term Bond Funds.


I have noted they usually raise the rate in 0.25% increments (& not in 1% increments) giving me time to make the change, although I would have taken some loss in the capital price of Bonds by the time I make the change.

Is this a too simplistic view/plan full of holes in the plan or is this a reasonable way ?? Market timing yes but I do not see any other way to avoid a major loss/blood bath in the funds which will fund our retirement living expenses.

Your thoughts/suggestions ?? with thanks

If you need this bond money starting in 2 years, I would match at least a portion of the bonds to the 2-3 year duration you need for income. The yield on some short term and Intermediate is not that much different. I wouldn't wait 2 years to make the move. I would keep 2-3 years in short term and the rest in intermediate.

I don't need mine until 2027, so mine is all intermediate at this time.

Good luck to you,

VW

 

[VanWinkle]

Retirement planning and withdrawal strategies are a very small niche in what CPAs do (I was a CPA for almost 35 years). Most CPAs are in corporate accounting, or audit or corporate tax. Some are individual tax practitioners but still not very focused on retirement withdrawal strategies.

If you can find a CPA with a PFS designation (Personal Financial Specialist) then it is more likely that a CPA will be helpful. This link is a place to start.

https://account.aicpa.org/eWeb/dynamicpage.aspx?webcode=referralwebsearch

Thanks pb, good info!!

 

[2177V]

That's flat out wrong. Taxable holdings get stepped up basis upon inheritance. Maybe that will change in the future, maybe not.

I am not an expert in taxes. This is why I ALWAYS refer people to a CPA because tax rules are complicated.

Here is a link that "implies" there are taxes involved in an inherited transitional IRA.

See rule number 5 for an inherited taxible IRA in the link below.

https://www.nerdwallet.com/blog/investing/inherited-ira-options/

Here is another link that "implies" taxes under "Traditional : Non-spouse inherited" section.

https://www.schwab.com/ira/inherited-ira/withdrawal-rules

The person who passed away took advantage of getting lower taxes during his contribution years. Generally Uncle Sam wants his taxes later during the withdrawal years.

 

[2177V]

Retirement planning and withdrawal strategies are a very small niche in what CPAs do (I was a CPA for almost 35 years). Most CPAs are in corporate accounting, or audit or corporate tax. Some are individual tax practitioners but still not very focused on retirement withdrawal strategies.

If you can find a CPA with a PFS designation (Personal Financial Specialist) then it is more likely that a CPA will be helpful. This link is a place to start.

https://account.aicpa.org/eWeb/dynamicpage.aspx?webcode=referralwebsearch

Great post. My CPA had informed me that she was doing both tax advising and financial planning in the past but recently California is trying to prohibit this dual function.

She was forced to focus on Tax advice only and she has a separate financial planner as a business partner. I guess we are going into specialties rather a jack of all trade environment.

 

[Peter]

vchan, Both your above links apply to IRAs. Your original comment was regarding taxable accounts.

 

[pb4uski]

vchan, Both your above links apply to IRAs. Your original comment was regarding taxable accounts.

I noticed that too... but it was indeed a well crafted dodge to try to rationalize the erroneous post regarding inherited taxable acccounts.

 

[2177V]

vchan, Both your above links apply to IRAs. Your original comment was regarding taxable accounts.

My point is that the tax code on inheritance and estate taxes is complicated. This includes various state laws on inheritances taxes and estate taxes which can be different from federal laws.

Real estate has a stepped up basis which avoids some taxes but I never heard of an "inherited taxible investment account" having a stepped up basis to a non-spouse beneficiary that are applicable to both the federal tax code and the tax code for all 50 states.

I have never heard that an inherited taxible investment account is a tax free transfer to a non-spouse beneficiary that are applicable to both the federal tax code and the tax code for all 50 states.

Perhaps people can provide a link on this subject to increase my limited tax knowledge on this issue.

This is because I am currently transferring my wealth to my children while I am still living and not after my death due to the complexity of estate and inheritance tax. There is a $15,000 gift tax limitation per person per year. When you include my wife and my daughter's spouse, the transfer can be $60,000 per year (couple to couple). After 20 years, this is $1.2M of tax free transfer which will not be included as part of my estate when I kick the bucket.

However, if I discover that I can transfer money tax free after my death without worrying about possible changes in the inheritance and estate taxes then I can re-think my strategy.

 

[RunningBum]

My point is that the tax code on inheritance and estate taxes is complicated. This includes various state laws on inheritances taxes and estate taxes which can be different from federal laws.

Real estate has a stepped up basis which avoids some taxes but I never heard of an "inherited taxible investment account" having a stepped up basis to a non-spouse beneficiary that are applicable to both the federal tax code and the tax code for all 50 states.

I have never heard that an inherited taxible investment account is a tax free transfer to a non-spouse beneficiary that are applicable to both the federal tax code and the tax code for all 50 states.

Perhaps people can provide a link on this subject to increase my limited tax knowledge on this issue.

https://investor.vanguard.com/inherit/irs-taxes covers this, as do many other sites if you google something like "inheriting a taxable brokerage account".

Consider verifying your thoughts before posting them as advice, especially when you admit you have limited knowledge on the topic. That would make things less confusing to others.