Still hanging on to my Bond Fund

[PatrickA5]

I have a significant investment in the Vanguard Total Bond Market Index Fund Admiral Shares(VBTLX). I have always used this fund as the fixed income portion of my asset allocation. The smart people got out when interest rates started going up and the value of this fund started dropping. Not me as I stuck with it in the anticipation that as the fund replaced its lower interest bonds with new bonds at the higher interest rates the fund would recover. This doesn’t seem to be happening. The current NAV is only $9.36 and it has been as high as $11.64.

To compound the issue, I am fully invested and when I take my annual RMD, I am forced to sell at a loss and use some of my RMD to pay taxes. What is left of the RMD, I use to buy additional shares in the same fund in a taxable account.

I am now very nervous of this fund. Should I continue to hold the course and keep this investment anticipating that it will go up eventually or should I sell and absorb the losses and invest the proceeds in CD’s or Money Market.

I would be interested in hearing suggestions.

Our IRAs are in a single Target Date fund that is part stocks, part bonds. It's a "set it and forget it" approach that I'm TRYING to maintain (didn't do that in 2020 and regret it).

Sure, I guess I could have sold the bond fund part and tried to figure out what's better, but every time I do that, things tend to not work out (2020).

I agree with the Sunk Cost philosophy and I probably wouldn't sell the bond funds at this point. Yields will probably continue to increase and at some point, rates will probably go down which would make the NAV go up. The biggest part of the loss is behind you.

Not saying you might not make better returns doing some of the things others are talking about (individual bonds, treasuries, CD's, etc), but I value simplicity at this point in my life and since we won't touch our IRAs for many years, it's not worth the effort or stress to mess with changing them to eek out a little more return.

I should add that all of our spending money is in taxable brokerage accounts - about 50% stocks and 50% money market funds. The MMFs are currently yielding 5.28%. At some point, I'll probably bite the bullet and invest that money in CDs, etc. Not in a hurry at this point.

 

[TickTock]

Personally I’m not interested in running my own bond fund, but clearly many here are these days.

Nothing wrong with either strategy, as long as it meets your goals.

 

[Midpack]

This is an area that is finally (IMO) getting the attention it deserves. The original Trinity study and most retirement calculators assume a rigid withdrawal rule. Why? Well, it's easy. And it does provide useful information. But real humans tend not to act that way - after a bad run they're nervous and put off the vacation/don't buy the new set of golf clubs/cut back on Starbucks/stop the massages/whatever's in their "nice, but not needed" spending bucket. Conversely, after a good run, they tend to "Blow That Dough!" [Seems like I've seen a thread on that...]

That was never expected for the 25 years since it was published. The Trinity Study authors, and Bengen as well, explicitly noted retirees should NOT follow the “rigid withdrawal rule” the study was based on (see below). It was just a logical withdrawal methodology used to estimate a safe withdrawal rate for planning purposes, it wasn’t chosen because “it’s easy.”

The authors make this qualification:

The word planning is emphasized because of the great uncertainties in the stock and bond markets. Mid-course corrections likely will be required, with the actual dollar amounts withdrawn adjusted downward or upward relative to the plan. The investor needs to keep in mind that selection of a withdrawal rate is not a matter of contract but rather a matter of planning.

 

[mrfeh]

That figure omits any appreciation or depreciation and is absolutely no way "an estimate of what it will return over the next <average duration> years".

Sorry, but that's exactly what it is.

If the Fed starts tightening again 5 years from now, we're back to its 3.2% long term rate of total return

Or, rates drop between now and then and you also have an increase in the NAV.

 

[mrfeh]

In theory perhaps... but then why is the distribution yield based on actual distributions that the fund has made in the last 9 months only 2.8-3.2%?

Type	$/Share	Payable date	Record date	Reinvest date	Reinvest price	Distribution yield
Dividend	$0.025740	09/01/2023	08/31/2023	08/31/2023	$9.44	3.23%
Dividend	$0.025385	08/01/2023	07/31/2023	07/31/2023	$9.52	3.14%
Dividend	$0.024502	07/03/2023	06/30/2023	06/30/2023	$9.55	3.11%
Dividend	$0.024639	06/01/2023	05/31/2023	05/31/2023	$9.61	3.01%
Dividend	$0.023717	05/01/2023	04/28/2023	04/28/2023	$9.74	2.97%
Dividend	$0.024104	04/03/2023	03/31/2023	03/31/2023	$9.71	2.95%
Dividend	$0.021782	03/01/2023	02/28/2023	02/28/2023	$9.49	2.96%
Dividend	$0.023135	02/01/2023	01/31/2023	01/31/2023	$9.76	2.81%
Dividend	$0.022785	01/03/2023	12/30/2022	12/30/2022	$9.48	2.79%

Is this a rhetorical question? I would hope you know the answer.

 

[pb4uski]

Distribution rates still reflect coupon rates when the bonds were issued. If a $100 bond issued with a coupon of 2% drops in value to, e.g., $85 because the yield climbed to 5%, the distribution rate is only 2/85, that is, 2.35%. Distribution rates will increase as low coupon bonds mature and are replaced.

And there is the hitch. With a bond fund/ETF, in the situation that you describe (which is indicative of today's VBTLX/BND portfolio that has a 3.0% average coupon but a 4.8% weighted average YTM), the fund buyer is forced to buy high discount, low coupon bonds. This in turn results in low income distributions since distributions are based on the 3% coupon. The remaining value... the $15 discount in your example... is never distributed to the owners but is retained by the fund and included in the NAV. That benefits the fund since fees are based on AUM. The only way the owner can get that $15 from the fund is by selling some shares.

With individual bonds, I am not forced to buy low coupon bonds. I can buy more recent issues where the coupon is close to the YTM and avoid that "problem". I do buy some discount bonds but the discounts are pretty slight... my weighted average coupon is 5.03% and my weighted average YTM is 5.16% a lot close than 3.0%/4.8% of BND.

But even if I did buy low coupon highly discounted bonds at $85 , the discount $15 comes back to me at maturity in cash and I don't need to sell fund shares in order to get the cash.

 

[Montecfo]

It’s true - someone who is laddering bonds in their fixed income allocation yet attempting to maintain an overall AA using rebalancing has to plan for rebalancing events. If they don’t have sufficient cash on hand, they’ll have to wait until some of the bonds mature to obtain the cash to buy more equities, or sell some bonds on the secondary market to do this. They also have to take into account annual withdrawals if interest/dividends don’t cover their annual needs.



Personally I’m not interested in running my own bond fund, but clearly many here are these days.

I think a few are 100% bonds, not many.

And I bet once rates reverse somewhat and stocks rally there will be some re-thinking.

 

[Montecfo]

And there is the hitch. With a bond fund/ETF, in the situation that you describe (which is indicative of today's VBTLX/BND portfolio that has a 3.0% average coupon but a 4.8% weighted average YTM), the fund buyer is forced to buy high discount, low coupon bonds. This in turn results in low income distributions since distributions are based on the 3% coupon. The remaining value... the $15 discount in your example... is never distributed to the owners but is retained by the fund and included in the NAV. That benefits the fund since fees are based on AUM. The only way the owner can get that $15 from the fund is by selling some shares.

With individual bonds, I am not forced to buy low coupon bonds. I can buy more recent issues where the coupon is close to the YTM and avoid that "problem". I do buy some discount bonds but the discounts are pretty slight... my weighted average coupon is 5.03% and my weighted average YTM is 5.16% a lot close than 3.0%/4.8% of BND.

But even if I did buy low coupon highly discounted bonds at $85 , the discount $15 comes back to me at maturity in cash and I don't need to sell fund shares in order to get the cash.

Well, there seems to be a little selective memory here. How would you have executed the strategy to "avoid low coupon shares" when the market is low coupon? You know like the years from 2009-2021.

I guess you could just hang out in cash as your 2009, 2010, 2011 2012, etc ladder rungs paid out, earning 1% or less. Hard to eat on that compared to today's market.

What do you think fund managers were doing that caused them to buy those "low-coupon shares" ?

I will tell you what that were doing, they were INVESTING. Same as you and every other recently converted ladder would have been if you used that strategy then, instead of being a new convert.

 

[Phroig]

Owning 3% coupon bonds yielding 5% doesn’t by itself make the bond fund a bad deal any more than owning 5% coupon bonds yielding 2% makes it a good deal.
Fees matter, but less than they used to: BND’s expense ratio is 0.03%.
FWIW, I have about 3-4% of my portfolio in individual bonds (not including Ibonds/CDs/bills which I consider cash), and less than 1% in a bond fund which I bought a couple weeks ago. Most of my fixed income is in TIAA Traditional. I don’t own VBTLX/BND, but I don’t believe that means nobody should.

 

[pb4uski]

Well, there seems to be a little selective memory here. How would you have executed the strategy to "avoid low coupon shares" when the market is low coupon? You know like the years from 2009-2021.

I guess you could just hang out in cash as your 2009, 2010, 2011 2012, etc ladder rungs paid out, earning 1% or less. Hard to eat on that compared to today's market.

What do you think fund managers were doing that caused them to buy those "low-coupon shares" ?

I will tell you what that were doing, they were INVESTING. Same as you and every other recently converted ladder would have been if you used that strategy then, instead of being a new convert.

You're definitely not getting the point that I was trying to make. It has nothing whatsoever to do with the past.

Let's say that I have $xxx,xxx of cash to invest today.

To make it simple let's look at the fund as a single bond and assume that immediately after we buy it it goes into runoff and ditto with individual bonds that we buy.

If I buy BND today the only choice that I have is to buy a share in a portfolio of bonds with an average coupon of 3% and a YTM of 4.8% trading at ~89 (100 - 11.34% unrealized losses). Over time, the fund will pay me the 3% coupons as they are received, but the amortization of the 11 discount will stay in the fund and will never distributed but will be included in the NAV. The only way I can get that 11 is to sell some shares of BND.

Alternatively, if I buy individual bonds I have choices. I can buy a 3% coupon at 89 for a 4.8% YTM like the fund owns or I can buy a 4.8% coupon bond at 100 yielding 4.8% and lots of other choices. With the 3% bond, I will receive the 3% coupons and I will receive the 100 at maturity, the 89 that I paid plus the 11 discount. With the 4.8% bond, I will receive the the 4.8% coupon and a return of my 100 at maturity.

In both cases the bond yields 4.8%, but with the fund, 1.8% of the 4.8% yield is never distributed... only the 3% coupon is distributed. With the fund, I never receive the 11 discount. It ends up embedded in the NAV and the only way that I can monetize it is to sell some of my BND shares. The structure of the fund limits my access to that portion of the income.

 

[Montecfo]

I see the point: you want the highest coupon.

To me the coupon doesn't matter. Only yield to maturity or call.

The Market is dynamic. Your coupons will not move up with the market.

If rates continue to rise, you will find your portfolio to be like a fund: coupons will be different than current market yields.

Now, you can make the point that you can hold to maturity, a valuable point as far as it goes.

But the suggestion that people should not buy bond funds because your strategy is to live off interest is not particularly valid for people not trying to do that.

 

[youbet]

Us as well.

But you said you were still semi-employed. That is, as you put it, working at side gigs.

 

[COcheesehead]

But you said you were still semi-employed. That is, as you put it, working at side gigs.

The side gig - 5 days a month - is complete blow money. We use it strictly for fun. Purchases we don’t put any thought into.

Thanks for keeping tabs on my retirement expenditures.

Oh, and Go Pack!

 

[youbet]

Haven’t worked at all during my first 18 years of RE. I use interest from fixed investments for, as you put it, “blow money.” Each to his own. I just prefer it that way.

No problem tracking your finances. You talk about them all the time making it pretty easy.

 

[Dufferin]

The NAV for VBTLX is still trending down. Shouldn't it gradually be trending up as the fund replaces lower interest rate holdings with higher interest rate holdings?

 

[audreyh1]

The NAV for VBTLX is still trending down. Shouldn't it gradually be trending up as the fund replaces lower interest rate holdings with higher interest rate holdings?

No, that won’t happen until interest rates start to drop again. What changes when the fund replaces with higher rate holdings is that the payout dividends increase.

 

[pb4uski]

No, that won’t happen until interest rates start to drop again. What changes when the fund replaces with higher rate holdings is that the payout dividends increase.

+1 So it may well be a while. The distribution yield should continue to trend upwards as lower coupon bonds mature if they are replaced with higher coupon bonds and the distribution yield has been rising.

 

[Exchme]

I see the point: you want the highest coupon.

To me the coupon doesn't matter. Only yield to maturity or call.

The Market is dynamic. Your coupons will not move up with the market.

If rates continue to rise, you will find your portfolio to be like a fund: coupons will be different than current market yields.

Now, you can make the point that you can hold to maturity, a valuable point as far as it goes.

But the suggestion that people should not buy bond funds because your strategy is to live off interest is not particularly valid for people not trying to do that.

The main difference is that more of the gains in BND will be LTCGs when sold because of the low current coupon vs. non qualified dividends if you buy new individual bond issues. That sounds like an advantage for BND to me, but it's fine by me if others volunteer to pay more taxes.

 

[rkser]

Following

 

[pb4uski]

The main difference is that more of the gains in BND will be LTCGs when sold because of the low current coupon vs. non qualified dividends if you buy new individual bond issues. That sounds like an advantage for BND to me, but it's fine by me if others volunteer to pay more taxes.

No tax advantage if in tax-deferred or tax-free accounts typically recommended for bonds. Equities are recommended for taxable accounts since both qualified dividends and LTCG are taxed at lower rates.

 

[COcheesehead]

Haven’t worked at all during my first 18 years of RE. I use interest from fixed investments for, as you put it, “blow money.” Each to his own. I just prefer it that way.

No problem tracking your finances. You talk about them all the time making it pretty easy.

Sorry I bother you. PM next time if I post something you don’t like.

 

[meleana]

I just sold my total bond market fund, GNMA fund, Global Multi Sector Bond Fund, and a couple of other bond funds and threw the proceeds into my Treasury Money Market Fund. Tired of losing money.

 

[rkser]

No tax advantage if in tax-deferred or tax-free accounts typically recommended for bonds. Equities are recommended for taxable accounts since both qualified dividends and LTCG are taxed at lower rates.

Even in a taxable account, I think returns from a individual bond or a bond fund will be taxed as ordinary income , no matter if long term.

 

[pb4uski]

True for dividends, but I don't think so for LTGG.

 

[GaryInCO]

I'm reading these fixed-income / ladder / etc discussions with great interest. I'm almost 67 and I took SS at my FRA because the long-term training gig I was living on abruptly disappeared. I may get occasional jobs to pad the account but it's not something I can count on. Now I need to figure out what to do going forward.

I'm one of those who couldn't live very well on fixed income alone -- just not enough in the tank. But a chunk of my net worth is in two rental properties that throw off a good return. I also have a mortgage on my house -- only 2.75% & tax writeoffs so I'm in no hurry to pay it off. The rentals cover the mortgage, household expenses, and utilities. SS covers almost everything else.

My liquid investible $$ is currently in a few stocks (which I mostly ignore, given my track record with stock investing), and mostly in 6-month Tbills and MM funds returning 5-5.5%. I've only been living on this for a few months, but I'm currently drawing about 2% of that investible $$. In 4 years I'll pay off a car loan and the payments are about equal to that 2% draw, so maybe then I won't need regular withdrawals at all? (I could pay off the loan, but it's only 3.25% so I'd rather leave that money in Tbills.) But I've also taken some big withdrawals to install solar, looking at a heat pump, etc.

I thought I would live very comfortably on a set of investing strategies (60/40 and some more complex stuff) that produced a great consistent return for the last 35 years -- until almost the day that I freed up my cash and invested in them, right when everything went wonky in early 2022. Great timing. I'm not sure if they'll work in a rising-rate environment. (But then I'm not sure stocks will either ...)
For now they're clawing back the 2022 losses but it's definitely not something I can count on any more.

What would you do in that situation? Stick 60% of my investible cash in VOO or similar and build a ladder with the rest?