To bond ladder or not?

[Golden sunsets]

The majority of our fixed income portfolio has always been invested in a bond/CD ladder over a five year period. We have never felt comfortable spreading the funds over a period of more than five years. We chose the bond ladder approach because we aren't comfortable with bond funds, where principal can be lost.

Over the last few years as bonds/cd's matured and new 5 year rates fell off a cliff, we did not reinvest the maturing $$'s in new 5year investments, hoping that rates would revert to normal. We have been disappointed that the rate environment continues to be depressed by the economy and The Fed's Prolonged QE policy. We have invested a small portion of the matured $$ into bond funds in the hope of generating some return, but 2013 was a wash for us, with some losing $$, and a few with some small returns. Consequently, we now have an obscene wad of cash earning .085 percent.

I'm curious how others who traditionally ladder have handled this problem. One other point-we stick pretty rigidly to an AA of 55equity/ 45fixed income and rebalance annually, so investing more in equities would violate our investment principles.

Would you bite the bullet and invest in 5/4/3 year bonds to replenish the ladder at low rates? Would you invest in bond funds? Would you sit on cash? Am I missing anything here?

 

[pb4uski]

Have you looked at the iShares or Guggenheim target maturity bond funds. They are like buying into a diversified portfolio of bonds that all mature in a specific year so they are a hybrid between individual bonds and bond funds.

Unfortunately, they don't solve the low rate problem. I look at them as an alternative to CDs - slightly better yields but some credit risk.

 

[Golden sunsets]

Pb4uski; Funny you should mention this option. We dipped our toes into that investment option last week. In order to pump up the yield we purchased 75percent investment grade 25percent high yield. We couldn't use this approach to fill all of the slots because we would be too invested in high yield. Conceptually I think it's a good idea because finding appropriate bonds with the exact maturity and amount we need is difficult. But as you point out the bullet shares don't solve the problem of historically low rates. I fear that I have market timed in not reinvesting at maturity and I've sworn an allegiance not to market time

 

[Dash man]

You can do a little better than 0.085%. GE Capital Retail Bank has a savings account of 0.95%, not great, but better. They have a 5 year CD of 2.25% or so, again not great, but better than what you are getting, if rates go up you can always just pay the penalty and cash out to reinvest. I'm not in any bonds right now, so I'm keeping a large cash reserve too.

 

[thedaily]

I'm in the same boat. I figured it would last 3 or 4 years not this long. I did open some accounts at GE Capital and Barclay's where I get at least 0.95 which is better than 0.01. Fortunately, they haven't gone down. I've chased some rates where they usually have a high rate and sign many people up and then lower it. The stock market feels to hot for me and it feels like the rates could go up but who knows maybe the 5 yr CD is a good option and just pay the penalty if rates go up.

 

[Running_Man]

I myself do not try and attempt to determine what the proper valuation of the bond market should be on my 5 year bond ladder. Whatever the US treasury is offering for 5 year bonds is what I will take. In the long run this has normally exceeded the US inflation rate. Right now with all the world's governments seriously interfering with the financial markets what true valuations are cannot be known as both the rates and the level of financial, commercial and industrial activity have been manipulated out of rational mechanisms. That Italy has the same 5 year treasury rate as the US and France is 1/2 of the current US rate is totally nonsensical. Greece's 10 year yield is now under 5 percent down from 30 percent a couple of years ago and they are incapable of paying their debt. I am sticking with the bond ladder until this shakes out and it will eventually.

I did sell my long US TIPS bond maturing in 2040 (10 percent of my total portfolio) early this morning after a very nice run up though out the first 4 months of this year. A one percent effective yield to maturity just didn't make sense to me, the only scenario where that is advantageous would be deflationary and I don't need TIPS for that. However the bond ladder will stay

 

[racy]

my 2 cents...
I never laddered bonds; just doing bond funds. Trying to keep duration short and diversifying among Vanguard funds. Over half is in Short Term Investment Grade Bonds. The rest is spread among Wellesley bonds, Intermediate Term Investment Grade, International Bond Index, and High Yield Corp. Plus, a sprinkling of farm land Trust Deeds when I can get them.
I figure I can ride out a period of principal loss without long term damage. Who knows. Buy your ticket and ride.

 

[Golden sunsets]

I misquoted the rate that we are receiving on the cash. The rate is .85, not .085, so nearly the same as GE Capitol. I haven't looked in some weeks but .85 is higher than 1 and 2 year rates so I think filling 1and 2 year ladder slots makes no sense to us. But biting the bullet on 4 and 5 year maturities is worth considering and paying the penalty if rates revert. We do own I bonds which jumped to 2.84 last week with our bonds purchased with a FR of 1 percent from purchases years ago. If only we had purchased I bonds with FR's of 2, 3 and even 4 when they were available. I'd like to purchase more but the purchase limit is now so low and the FR component is .1-ugly.

 

[Lsbcal]

...(snip)...
I'm curious how others who traditionally ladder have handled this problem. One other point-we stick pretty rigidly to an AA of 55equity/ 45fixed income and rebalance annually, so investing more in equities would violate our investment principles.

Would you bite the bullet and invest in 5/4/3 year bonds to replenish the ladder at low rates? Would you invest in bond funds? Would you sit on cash? Am I missing anything here?

I don't "traditionally ladder" but isn't the solution pretty obvious? You just continue with your ladder. You have to accept that the safe part of the portfolio is going to earn low returns for the foreseeable future.

The compensation is that you retain the safety edge in the FI side. One just has to look at the total portfolio return and make sure the equities are exposed to the appropriate general market risk in the hopes of getting the equity (positive) market returns. Worked out well last year.

Also one does not want to fund the entire bond ladder at once because that is just a snapshot of the current yield curve. It's supposed to be a pipe that gets filled maybe annually but from one end, the other end is what matures.

BTW, even though I do not ladder I have accepted that my FI portion is going to be a low real returner. So I have:
1) a short term investment grade fund with about 1 year's expenses
2) two intermediate bond funds

 

[jj]

I feel your pain. We stick to a 45% equity/55% fixed allocation and would like a larger return on our fixed income portfolio too - wouldn't we all!

But... it's not happening in this current interest rate environment. So we have a mixed bag of:

- Pen Fed cds, 5 and 7 year terms, expiring 2018 and 2019, @ 2.5%, 3% and 3.25%

- I bonds, some with a fixed rate as high as 1.4% (big deal!) We add to this each year.

- Vanguard taxable bonds in deferred accounts (Intermediate term)

- Vanguard municipal bonds in taxable accounts (Intermediate and Limited term)

- 1 year cash yielding 0.85%

We aim to keep up with inflation, this is the stable part of our portfolio where we do not want to take much risk. I really don't see how we can do any better at the moment....

 

[bamsphd]

I've just stuck with my five year TIPS ladder, purchasing the new TIPS at auction as older TIPS mature. Buying TIPS at a negative real yield is obviously not going to make me rich, but should insure that I can pay my bills for at least five years regardless of Mr Equity Market's performance.

 

[Chuckanut]

I was/am in the same boat for quite a while. I never figured that the [-]war on savers[/-] low interest rates would last this long. About 2 1/2 years ago, I bit the bullet and bought some 5 year CDs at a 'whopping' 2.25% with funds that were in a money market yielding less than 0.4%. I felt like a chump when I bought them. Now I feel like a champ. Only my Penfed 3% CDs have done better in the guaranteed investment arena.

 

[Golden sunsets]

I'm so mad at myself for stalling on the PenFed 3percenters. I won't hesitate next time.

 

[pb4uski]

Me too. I did a big chunk but should have done more.

 

[Ready]

For taxable accounts, municipal bonds or bond funds are paying higher rates than treasuries, and tax free. The returns are really pretty decent. And the Vanguard long term municipal bond fund only has a duration of 7.1 years, yet is paying a pre-tax SEC yield of around 3%. That could be closer to 5% equivalent depending on your tax bracket.

 

[Chuckanut]

Given that the current rate of unemployment and under employment is still in double digits, I doubt if the Fed is going to run up interest rates any time soon.