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

[Freedom56]

The whole mark to market of tips or bonds discussion is really on how you personally look at your portfolio.

If I had the 40 part of a 60/40 in a CD or bond that I bought a year ago with 1% return and I was ok with that then a year later my 60 is down 20% and my 40 is up 1%. Yeah. Nominal.

If you mark that CD or bond to market I might be down 10% depending on the duration. But I don’t do that.

Sure, I can be sorry that my opportunity cost is higher than I wanted because interest rates have gone up, but in no universe can anyone tell me I’m down 10% on the 40 part of my portfolio. I’m not.

Now I totally see and sympathize with the counterpoint to this as mark to market depreciation. But that’s just a different way of looking at it. The big point is I didn’t buy a bond fund.

And quit with the “please just stop” stuff. Dlds is making a valid point depending on how you plan your portfolio, especially if you’re mainly a fixed income investor.

Freedom56 is a fixed income bond investor. I’m sure a lot if not all of his bonds are marked down this year. Can’t imagine telling him he lost money this year. Again, sure, nominal. But everything is nominal.

Everything is marked down this year. I came into the year with a lot of cash that was earning next to nothing. Before this year I didn't buy a single bond or CD since around March 2020. All the issues that matured in 2021 and all coupon payments were sitting in money market funds earning very little interest. I started adding to my ladder again this year. Unlike bond funds that feel compelled to by anything no matter how low the coupons are, I wont play that game. I time all my purchases and only buy when the markets sell off like in 2013, 2015, 2017, 2018, 2020, and now in 2022. Those that say market timing is terrible don't understand fixed income or investing.

My fixed income portfolio is very different from your typical bond fund.

Average Maturity: 4.31 years
Average Estimated Yield: 7.47365%
Average Coupon Rate: 6.20836%

The damage to my portfolio is nothing like your typical bond fund and I hold everything to maturity or call. All that cash that was earning .01% last year is now earning orders of magnitude more money. I buy fixed income for interest income and preservation of capital. So whatever damage has been done is being compensated by an increase in interest income. As we enter tax loss selling season, bond funds will be realizing huge losses (as they have done all year) as they sell securities to satisfy redemptions and I will be buying those securities at deep discounts. This is exactly the same game plan as prior periods of sell-offs. When rates stabilize, my portfolio is going to be far better positioned than most bond funds for the coming years. Bond mature at par. Those funds that bought bonds 20-40% above par will never recover their losses. This is a fact. This is precisely why many of the largest bond funds are about to wipe their total returns since inception. You can't outperform a laddered bond portfolio with a ridiculous strategy of "buy high/sell low" every time the market sells off that bond funds employ.

 

[bmcgonig]

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

Just to distill this down to its essence.

Let’s say I bought a 2yr bond/cd at par paying 1% a year ago. Interest rates have now jumped up about 3% since. Now the bond/cd is selling at 97 on Schwab.

A fund did similar. Except that they bought millions of dollars of the same bond/cd. For this example that’s all they own.

You ask me how I did last year, and I say I made 1%.
You look at the fund on Schwab and it’s down 3%.
And even weirder if I had bought the fund instead of the bond/cd and you asked me how I did I’d say I was down 3%.

Anyone dispute both conclusions? Even though they kinda sorta maybe seem opposite?

 

[COcheesehead]

Just to distill this down to its essence.

Let’s say I bought a 2yr bond/cd at par paying 1% a year ago. Interest rates have now jumped up about 3% since. Now the bond/cd is selling at 97 on Schwab.

A fund did similar. Except that they bought millions of dollars of the same bond/cd. For this example that’s all they own.

You ask me how I did last year, and I say I made 1%.
You look at the fund on Schwab and it’s down 3%.
And even weirder if I had bought the fund instead of the bond/cd and you asked me how I did I’d say I was down 3%.

Anyone dispute both conclusions? Even though they kinda sorta maybe seem opposite?

The fund would actually be worse off in your example. They would have had expenses and a few folks would have sold so the fund would have to sell some shares at the lower price.

 

[NW-Bound]

Welcome to form 1099-OID. You are in the club!

I don't have a lot of TIPS. Mine are in a taxable account. Since I currently have zero income, it may actually be smart since those iBond bombs will be going off when I am in RMD land.

OK. Out with I bond. In with TIPS.

The I bonds I bought in the early 2000s have doubled in value, and they still have more than 10 years till maturity. And inflation is high, giving me more fake gains as we speak. That's a big tax bomb going off in 10 years, and I am only a few years till SS at 70 and RMD.

What to do, what to do? I can start selling some now to spread out the tax bill, but then have to give up the 1-1.2% real yield above inflation of these I bonds, which you cannot get anymore. And then, how can I do Roth conversion with all the fake gains showing up on my tax return?

What to do, what to do?


PS. One thing I am deadly sure of: High inflation sucks! People make a bit of money just to cancel out inflation, and they jump up/down with joy. Wait until the tax bomb goes off. You break even with inflation before tax. After tax, you lose. And you may lose big.

 

[JoeWras]

The only reason on my toes, not jumping, is it is better than local bank CDs which are still in the weeds

 

[daylatedollarshort]

Just to distill this down to its essence.

Let’s say I bought a 2yr bond/cd at par paying 1% a year ago. Interest rates have now jumped up about 3% since. Now the bond/cd is selling at 97 on Schwab.

A fund did similar. Except that they bought millions of dollars of the same bond/cd. For this example that’s all they own.

You ask me how I did last year, and I say I made 1%.
You look at the fund on Schwab and it’s down 3%.
And even weirder if I had bought the fund instead of the bond/cd and you asked me how I did I’d say I was down 3%.

Anyone dispute both conclusions? Even though they kinda sorta maybe seem opposite?

If I had a CD for 1% last year, I would say I made 1%. If I also had a TIPS bond and an I bond, each with a 1% real yield, and inflation was 8%, I would say I made around 9% on each of the inflation adjusted bonds.

If I held the 1% TIPS in a taxable account, the IRS would certainly consider that I had a 9% gain and tax me on that amount. The tax basis in my brokerage account of the TIPS bond would also reflect the 8% inflation adjustment.

 

[Turbo29]

Just to distill this down to its essence.

Let’s say I bought a 2yr bond/cd at par paying 1% a year ago. Interest rates have now jumped up about 3% since. Now the bond/cd is selling at 97 on Schwab.

A fund did similar. Except that they bought millions of dollars of the same bond/cd. For this example that’s all they own.

You ask me how I did last year, and I say I made 1%.
You look at the fund on Schwab and it’s down 3%.
And even weirder if I had bought the fund instead of the bond/cd and you asked me how I did I’d say I was down 3%.

Anyone dispute both conclusions? Even though they kinda sorta maybe seem opposite?

I think one thing is being missed. If you had to sell now, you would take a loss on the bond/cd just as your would take a loss on the fund.

If you don't need to sell for another year, the bond/cd will mature and you will get full value with interest. In that same year the fund will not mature, it will still have a duration of [whatever that paticular fund targets] and if interest rates are still up you will be negative on the fund.. If you need the money at that time it make a difference. Cd/bond will have no loss (actually a profit) while the fund will have a loss (amount of that loss will vary depending on current interest rates).

 

[ShokWaveRider]

Wait till 2 - 5 year Treasuries reach 5%, dump a wodge into them and lay back and enjoy your favorite Single Pot Whiskey for a while.

 

[DawgMan]

So I am still waiting for you experts to tell me when to pull the trigger on individual bonds beyond 5 years? If you are stacking a bond ladder (holding to maturity) and looking at your 5+ year $$ (relatively safe, say A rated and above, perhaps some BBBs). In my case, I have underwritten an average 5% overall return on an AA that is around 70/30 (playing it conservative so I am hopefully pleasantly surprised!) so my logic is if I can lock down close to 5% on my 5+ year $$, maybe pull the trigger

 

[Freedom56]

So I am still waiting for you experts to tell me when to pull the trigger on individual bonds beyond 5 years? If you are stacking a bond ladder (holding to maturity) and looking at your 5+ year $$ (relatively safe, say A rated and above, perhaps some BBBs). In my case, I have underwritten an average 5% overall return on an AA that is around 70/30 (playing it conservative so I am hopefully pleasantly surprised!) so my logic is if I can lock down close to 5% on my 5+ year $$, maybe pull the trigger

When corporation start issuing 10 year notes with coupons over 8% and 30 year notes at 10% for high grade investment grade debt. Look at this issue from last week from Lockheed Martin (A Rated). The coupons were so low given the durations that even funds did not bid for it at par. In addition, the company plans to use the proceeds of this bond fund to buy back stock. What an irresponsible use of capital. These bonds are doomed to plunge just like the one from Apple issued in early August. But funds did buy them and will gladly lose "other peoples money" while they collect their management fees.

https://finra-markets.morningstar.com/BondCenter/BondDetail.jsp?ticker=C1056500

https://finra-markets.morningstar.com/BondCenter/BondDetail.jsp?ticker=C1056503

https://finra-markets.morningstar.com/BondCenter/BondDetail.jsp?ticker=C1056505

 

[COcheesehead]

So I am still waiting for you experts to tell me when to pull the trigger on individual bonds beyond 5 years? If you are stacking a bond ladder (holding to maturity) and looking at your 5+ year $$ (relatively safe, say A rated and above, perhaps some BBBs). In my case, I have underwritten an average 5% overall return on an AA that is around 70/30 (playing it conservative so I am hopefully pleasantly surprised!) so my logic is if I can lock down close to 5% on my 5+ year $$, maybe pull the trigger

I just run my ladder with a target date of 2032 when I’ll take SS at 70. Maturing issues get reinvested at the long end. I have increased my cashflow by over 50% from a year ago.
I have a bunch maturing or being called by Dec 15th. So that may coincide well with Freedom’s bond sale extravaganza. Otherwise I look at cashflow more than yield.

 

[DawgMan]

When corporation start issuing 10 year notes with coupons over 8% and 30 year notes at 10% for high grade investment grade debt. Look at this issue from last week from Lockheed Martin (A Rated). The coupons were so low given the durations that even funds did not bid for it at par. In addition, the company plans to use the proceeds of this bond fund to buy back stock. What an irresponsible use of capital. These bonds are doomed to plunge just like the one from Apple issued in early August. But funds did buy them and will gladly lose "other peoples money" while they collect their management fees.

https://finra-markets.morningstar.com/BondCenter/BondDetail.jsp?ticker=C1056500

https://finra-markets.morningstar.com/BondCenter/BondDetail.jsp?ticker=C1056503

https://finra-markets.morningstar.com/BondCenter/BondDetail.jsp?ticker=C1056505

Interesting... it seems many crystal balls call for potentially lowering of interest rates by 2024 (who knows). None the less, how realistic is holding out for 8% on 10 yr money? Again, no expert here, but if you are building a 10 yr ladder to buffer poor equity return years, how long/what yield should you hold out for? 10 years looking for A rated at 8% feels like long shot, but I hope you are right!

 

[Freedom56]

Interesting... it seems many crystal balls call for potentially lowering of interest rates by 2024 (who knows). None the less, how realistic is holding out for 8% on 10 yr money? Again, no expert here, but if you are building a 10 yr ladder to buffer poor equity return years, how long/what yield should you hold out for? 10 years looking for A rated at 8% feels like long shot, but I hope you are right!

I don't own any equities and as far as I'm concerned equity valuations are too concentrated on 5 companies (Microsoft, Apple, Amazon, Google, and Tesla) that are now 20% of the S&P 500 weighting. That makes no sense and eventually over the next three years, the super bubble created by the zero interest policy will pop. Moving forward, I'm going to keep laddering up to 5 years. Right now you can get 6.25% on 5 year high grade notes. So it make no sense to buy a 10 year note with a lower coupon. People should wait until we are deep into tax loss selling season to see how high yields can spike.

 

[daylatedollarshort]

Again, lots of words, but what you did is a calculation that reflects value in your mind only and compared that favorably to actual published total returns of bond funds.

That is not correct and you really should stop it.

TIPS in taxable accounts are taxed on the inflation adjustment. This value is not just in my mind and is reported under cost basis on my monthly brokerage statements. If I held my TIPS in a taxable account, the phantom income (inflation adjustment) would also be on a 1099 for tax purposes. As MichaelB stated previously, the inflation adjustment is called phantom income because you don't actually get the money until your bond matures, but you still have to pay tax on it. The phantom income is what the IRS consider taxable income. The market price doesn't impact your taxable TIPS income unless you sell your TIPS prior to maturity at the market price.

Related Links:
TreasuryDirect, TIPS and the dreaded 1099-OID | Treasury Inflation-Protected Securities (tipswatch.com)

Treasury Inflation Protected Securities - TIPS (costbasis.com)

 

[copyright1997reloaded]

This discussion about "I made money on my bonds this year" even though yields (both nominal and real are up) is amusing in terms of people deceiving themselves.

If yields go up, the value of a given $ flow of coupon payments goes down. No one will pay as much when they can get a higher yield (given the same safety) in another instrument.

For a real life example, Treasury auctioned off a 30-year bond on February 11, 2021 (issue date 2/16/2021, maturity 2/15/2051, CUSIP 912810SU3) with 1 7/8% @ 98.684360 resulting in 1.933% YTM.

That bond is now trading at 58 6/32, a 41% loss in value. Yes, they will "eventually" be redeemed at par, and you will get that 1.933% year after year, regardless of whether rates are 0%, 5%, or 20%, or even if we become a "Weimar Republic" via hyperinflation.

There are valid reasons (occasionally) to use Historical Cost Accounting (HCA), which banks used to simply record asset values at what they paid for them. However, this methodology should only be used for assets whose values are difficult to measure accurately. That isn't the case for the highly liquid treasury market.

Instead, mark to market should be used...because if you have to sell it (for whatever reason), that is all you will get for it.

Obviously, the lower the duration, the less the effect of higher rates on market value. But the logic remains the same, just less in impact.

 

[Spock]

This isn't my thread, but can the three of you arguing over TIPs please take it somewhere else? It's obvious by now that none of you are going to convince the other to see things your way. The waters are murky enough without y'all slinging mud back and forth... the signal-to-noise ratio is falling off rapidly.

 

[lordjust]

GSE

did this just get listed ? I am thinking things are going to keep getting interesting..

FEDERAL HOME LOAN BANKS BOND 6.900
semi-annual 10/28/2037 --

i put an order in for the GS 6.75% 5 year one .. but based on this i may have to cancel and just sit on my hands for a few weeks..

 

[Born2Fish]

did this just get listed ? I am thinking things are going to keep getting interesting..

FEDERAL HOME LOAN BANKS BOND 6.900
semi-annual 10/28/2037 --

i put an order in for the GS 6.75% 5 year one .. but based on this i may have to cancel and just sit on my hands for a few weeks..

I started reducing the number of shares purchased for Corp Notes orders, and my short duration treasuries will start maturing 1-Dec-22 so I will have more cash to continue buying for a while.

 

[Montecfo]

This discussion about "I made money on my bonds this year" even though yields (both nominal and real are up) is amusing in terms of people deceiving themselves.

If yields go up, the value of a given $ flow of coupon payments goes down. No one will pay as much when they can get a higher yield (given the same safety) in another instrument.

For a real life example, Treasury auctioned off a 30-year bond on February 11, 2021 (issue date 2/16/2021, maturity 2/15/2051, CUSIP 912810SU3) with 1 7/8% @ 98.684360 resulting in 1.933% YTM.

That bond is now trading at 58 6/32, a 41% loss in value. Yes, they will "eventually" be redeemed at par, and you will get that 1.933% year after year, regardless of whether rates are 0%, 5%, or 20%, or even if we become a "Weimar Republic" via hyperinflation.

There are valid reasons (occasionally) to use Historical Cost Accounting (HCA), which banks used to simply record asset values at what they paid for them. However, this methodology should only be used for assets whose values are difficult to measure accurately. That isn't the case for the highly liquid treasury market.

Instead, mark to market should be used...because if you have to sell it (for whatever reason), that is all you will get for it.

Obviously, the lower the duration, the less the effect of higher rates on market value. But the logic remains the same, just less in impact.

Very true. And that bond has lost 41 pct regardless of whether held by an individual or a fund manager.

Another reason you want to shy away from low coupon issues (other than cash flow) especially if a similar higher coupon issue is available, is duration. You get your money back faster with a higher coupon, even if YTM is the same. Accordingly that low coupon issue will be somewhat more rate sensitive than a higher coupon issue with the same term.

 

[Sunset]

....

For a real life example, Treasury auctioned off a 30-year bond on February 11, 2021 (issue date 2/16/2021, maturity 2/15/2051, CUSIP 912810SU3) with 1 7/8% @ 98.684360 resulting in 1.933% YTM.

That bond is now trading at 58 6/32, a 41% loss in value. Yes, they will "eventually" be redeemed at par, and you will get that 1.933% year after year, regardless of whether rates are 0%, 5%, or 20%, .......
......

I'm still trying to understand these resale treasuries/bonds
Won't this example actually pay 1 7/8% as that is the coupon rate, and I can buy it today at $58 6/32,
hold it until 2/15/2051 (29 yrs) and be repaid $100 ?
All of which very roughly works out to 3.32% (but largely paid at the end).

There is no make up the difference to the seller type of thing is there ?

 

[NW-Bound]

... For a real life example, Treasury auctioned off a 30-year bond on February 11, 2021 (issue date 2/16/2021, maturity 2/15/2051, CUSIP 912810SU3) with 1 7/8% @ 98.684360 resulting in 1.933% YTM.

That bond is now trading at 58 6/32, a 41% loss in value. Yes, they will "eventually" be redeemed at par, and you will get that 1.933% year after year, regardless of whether rates are 0%, 5%, or 20%, or even if we become a "Weimar Republic" via hyperinflation...

A parallel to these terrible long bonds is the 30-year mortgage. I wonder how they are accounted for in the book of institutions holding them.

 

[finnski1]

I'm still trying to understand these resale treasuries/bonds
Won't this example actually pay 1 7/8% as that is the coupon rate, and I can buy it today at $58 6/32,
hold it until 2/15/2051 (29 yrs) and be repaid $100 ?
All of which very roughly works out to 3.32% (but largely paid at the end).

There is no make up the difference to the seller type of thing is there ?

Actually at 58 6/32 the yield would work out to about 4.5% right now.
Just checked, the yield to maturity right now base don an ask price of 59.297 works out to 4.405% YTM.

 

[Turbo29]

A parallel to these terrible long bonds is the 30-year mortgage. I wonder how they are accounted for in the book of institutions holding them.

That's an interesting question. I've often read that the 10yr Treasury rate is what influences mortgage rates the most and wondered why it wasn't the 30yr Treasury instead. Perhaps only a small percentage of mortgages actually last 30yr before the loan is refinanced or the house is sold.

 

[Montecfo]

That's an interesting question. I've often read that the 10yr Treasury rate is what influences mortgage rates the most and wondered why it wasn't the 30yr Treasury instead. Perhaps only a small percentage of mortgages actually last 30yr before the loan is refinanced or the house is sold.

Correct

 

[copyright1997reloaded]

A parallel to these terrible long bonds is the 30-year mortgage. I wonder how they are accounted for in the book of institutions holding them.

Terrible.

One of the reasons FAS 115 (mark to market) came about was because of the Savings & Loan crisis.

Here's a federal reserve blurb on it: https://www.federalreservehistory.org/essays/savings-and-loan-crisis

Many of those S&L's used Historical Cost Accounting, i.e. argued that the loans would eventually be paid (and they had no requirement to mark to market). But they got to talk about their great loan book that was doing well even with rising interest rates.

I'm just waiting for yet another post about TIPS (and explaining them to me) even though I've owned individual TIPS since 2009 (e.g. bought CUSIP 912810PZ5 which has a real return component of 2.5%) and TIPS bond funds in my 401k way before that.