Why bonds??
Why bonds??
Quick question for everyone. This came up in my other post...
Just looking very basically at asset allocation, why are bonds recommended at all when still 25 years or more away from retirement?
I am in the process of moving my wife's roth ira to vanguard. I will be investing in VTSAX and VTIAX. I dont see a reason to put even 10% into VBTLX yet. We are both 30 years old and consider ourselves 25 years away from retirement. I realize there is alot to consider, but looking at things at a very basic level, why do I need bonds now?
'According to Jeremy Siegel's Stocks for the Long Run, for every rolling five-year investing period from 1802 to 2002 (i.e., 1802-1807, 1803-1808, etc.), stocks outperformed bonds 80% of the time. Stocks beat bonds for 90% of the rolling 10-year periods, and essentially 100% of the rolling 30-year periods. For holding periods of 17 years or more, stocks have always beaten inflation, a claim bonds can't make."
I realize that vanguard's target retirement 2060 fund contains approximately 10% bonds. I also acknowledge that they know a little more than I do about investing
So what am I missing???
Just looking very basically at asset allocation, why are bonds recommended at all when still 25 years or more away from retirement?
I am in the process of moving my wife's roth ira to vanguard. I will be investing in VTSAX and VTIAX. I dont see a reason to put even 10% into VBTLX yet. We are both 30 years old and consider ourselves 25 years away from retirement. I realize there is alot to consider, but looking at things at a very basic level, why do I need bonds now?
'According to Jeremy Siegel's Stocks for the Long Run, for every rolling five-year investing period from 1802 to 2002 (i.e., 1802-1807, 1803-1808, etc.), stocks outperformed bonds 80% of the time. Stocks beat bonds for 90% of the rolling 10-year periods, and essentially 100% of the rolling 30-year periods. For holding periods of 17 years or more, stocks have always beaten inflation, a claim bonds can't make."
I realize that vanguard's target retirement 2060 fund contains approximately 10% bonds. I also acknowledge that they know a little more than I do about investing
So what am I missing???
Re: Why bonds??
Here's a mega thread from earlier this month addressing a very similar question: http://www.bogleheads.org/forum/viewtop ... 0&t=132539
The short answer is: because stock outperformance is not guaranteed, the future is uncertain, and diversification with bonds helps hedge equity risk. Perhaps you don't need a lot of bonds when you're 25 years from retirement (Vanguard Target Retirement funds still have about 90% equity at that point, but start adding bonds pretty rapidly thereafter), but most folks here recommend every investor--particularly novices--have at least some.
The short answer is: because stock outperformance is not guaranteed, the future is uncertain, and diversification with bonds helps hedge equity risk. Perhaps you don't need a lot of bonds when you're 25 years from retirement (Vanguard Target Retirement funds still have about 90% equity at that point, but start adding bonds pretty rapidly thereafter), but most folks here recommend every investor--particularly novices--have at least some.
Don't assume I know what I'm talking about.
Re: Why bonds??
Thanks for the quick reply G-Money
I missed that thread, thanks for including it. A lot of good info there.
I missed that thread, thanks for including it. A lot of good info there.
- nisiprius
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Re: Why bonds??
You could be missing this. Four bond funds and one stock fund (yellow):
I don't know if you are looking at the latest edition of Siegel's book. It's out but I haven't seen it. In the previous edition, he said: ""never in any of the past 175 years would a buyer of newly-issued 30-year bonds have outperformed an investor in a diversified portfolio of common stocks held over the same period." That is a perfect illustration of the limits of reliability of statements of that kind. That statement is no longer accurate (though people keep repeating it). If you have the current edition I'd appreciate if you would post the exact language he now uses. The 175 years is disingenuous, too. Doesn't it seem like a slightly strange period of time, given that when he talks about stocks in that edition he uses 205 years of data. But that statement wouldn't be accurate if the time period were extended back.
You could be missing this. This was said by a prominent author of investing advice books and a professional wealth manager:
This was written by another once-prominent financial writer in 2009, as it was happening. I give him marks for frankness and honesty. Please pay attention to the tone. Decide for yourself just to what degree the last sentence is a joke and to what extent it is serious. I've underlined some things he says about bonds.
I don't know if you are looking at the latest edition of Siegel's book. It's out but I haven't seen it. In the previous edition, he said: ""never in any of the past 175 years would a buyer of newly-issued 30-year bonds have outperformed an investor in a diversified portfolio of common stocks held over the same period." That is a perfect illustration of the limits of reliability of statements of that kind. That statement is no longer accurate (though people keep repeating it). If you have the current edition I'd appreciate if you would post the exact language he now uses. The 175 years is disingenuous, too. Doesn't it seem like a slightly strange period of time, given that when he talks about stocks in that edition he uses 205 years of data. But that statement wouldn't be accurate if the time period were extended back.
You could be missing this. This was said by a prominent author of investing advice books and a professional wealth manager:
Personally, my wife and I have a very conservative stock allocation. We were right on the hairy edge of bailing during 2008-2009. We didn't do it, but there is no doubt in my mind that we would have if we had been 100% stocks."In the midst of the Great Recession of 2008, stocks were dropping like a stone. I did the opposite of what I advise my clients to do: I panicked and reduced my asset allocation to stocks, thereby missing out on a significant portion of the recovery.... I have a greater appreciation of the pain and anxiety investors feel when they see significant losses reflected in their monthly statements."
This was written by another once-prominent financial writer in 2009, as it was happening. I give him marks for frankness and honesty. Please pay attention to the tone. Decide for yourself just to what degree the last sentence is a joke and to what extent it is serious. I've underlined some things he says about bonds.
My losses are staggering even in the most plain vanilla index funds. In the emerging markets and developed markets, investments that had once provided immense gains, the losses are worse. Even in my beloved RQI, the high-income, leveraged REIT index fund, the losses are beyond belief.
Instead of just jumping off my balcony, which wouldn't get me more than a broken leg, I am going to try to make some sense of what has happened….
First, although my colleague, Phil DeMuth, and I always wrote in our books that investors should have a huge slice of bonds, two problems happened to me. One, I had too many corporate bonds. Although they did not get hit as hard as stocks, they did not hold up well at all. Second, I should have had a huge dollop of Treasury short-term bonds. If I had held half of my savings in short term Treasuries, I would have lost only half as much.
I am more than the mere composite of the stocks and bonds I own. I hate myself for being so dependent on how much money I have for my self image. As for retirement, well, I get sick and bored if I am not on the road most of the time anyway. The reason I am not suicidal right now is that I have a wife who would be fine with it if we had to live a more modest life style.
Last edited by nisiprius on Fri Feb 28, 2014 11:44 am, edited 2 times in total.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.
Re: Why bonds??
Nisiprius said it more eloquently, but speaking personally and subjectively, it’s easy for me to overestimate my ability and willingness to take risk, so that without the stabilizing effect of having some bonds in the portfolio I would lose confidence and abandon an all-stock strategy during a severe stock market decline.
Others have pointed out that bonds help with rebalancing, which wouldn’t be possible with an all-stock portfolio.
So having an allocation that includes at least some bonds makes it easier to stay the course you have chosen.
John
Others have pointed out that bonds help with rebalancing, which wouldn’t be possible with an all-stock portfolio.
So having an allocation that includes at least some bonds makes it easier to stay the course you have chosen.
John
Many wealthy people are little more than janitors of their possessions. |
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Re: Why bonds??
While your portfolio is smallish (say, less than 3-5 years of expenses), and you have a lot of earning years ahead of you, you can skip bonds. But you don't want to be caught with your pants down as you approach retirement. So decide on a glide path and implement it.
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Re: Why bonds??
Another point. The stock market exhibits what are often called "secular bull and bear markets." That is, there are surprisingly long periods of time during which the stock market consistently earns much more or much less than the historical average.
Siegel says "Note the extraordinary stability of the real return on stocks over all major subperiods: 7.0% per year from 1802-1870; 6.6% from 1871 through 1925; and 7.2% since 1926," but those periods are, respectively, 69, 55, and 82 years long.
In reality, the dollar-weighted time in the market of an individual's personal accumulation is much shorter than that. Let's called it 30 years, although I think it's shorter. It doesn't have an abrupt beginning--it may have an abrupt end--but, basically, you have something like 30 peak earnings years in which to get your retirement savings done.
I don't like this chart by Jim Otar, because I don't like his marking off nice straight lines and corners. I don't believe that's real. But nevertheless, there is a very coarse texture to the stock market which I believe is real. The stock market is fractal; the chart does not smooth out as you back away from it. There are only 8 of those segments in 108 years, or an average length of about 13 years each. This means that the thirty-year period in which you are really heavily invested is only going to span two or three of them.
You are not taking an average over 30 independent years. You are taking an average over 2 or 3 "secular markets." That means that despite any "extraordinary stability over 69, 55, or 82 years, you don't have that many peak earnings years to work with. With only 30 years to work with, luck is going to play a big role--and your luck might be bad.
Siegel says "Note the extraordinary stability of the real return on stocks over all major subperiods: 7.0% per year from 1802-1870; 6.6% from 1871 through 1925; and 7.2% since 1926," but those periods are, respectively, 69, 55, and 82 years long.
In reality, the dollar-weighted time in the market of an individual's personal accumulation is much shorter than that. Let's called it 30 years, although I think it's shorter. It doesn't have an abrupt beginning--it may have an abrupt end--but, basically, you have something like 30 peak earnings years in which to get your retirement savings done.
I don't like this chart by Jim Otar, because I don't like his marking off nice straight lines and corners. I don't believe that's real. But nevertheless, there is a very coarse texture to the stock market which I believe is real. The stock market is fractal; the chart does not smooth out as you back away from it. There are only 8 of those segments in 108 years, or an average length of about 13 years each. This means that the thirty-year period in which you are really heavily invested is only going to span two or three of them.
You are not taking an average over 30 independent years. You are taking an average over 2 or 3 "secular markets." That means that despite any "extraordinary stability over 69, 55, or 82 years, you don't have that many peak earnings years to work with. With only 30 years to work with, luck is going to play a big role--and your luck might be bad.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.
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Re: Why bonds??
If you can stomach the possibility of equities dropping 50% in a downturn go for 100% stocks.
Benjamin Graham who was Warren Buffett's mentor recommended all portfolio have at least 25% in bonds.
I found during the 2007 - 2009 financial crisis that having some "dry powder" as Jack Bogle calls it, combined with new contributions, was invaluable to re-balancing into stocks during this time.
Thanks.
Benjamin Graham who was Warren Buffett's mentor recommended all portfolio have at least 25% in bonds.
I found during the 2007 - 2009 financial crisis that having some "dry powder" as Jack Bogle calls it, combined with new contributions, was invaluable to re-balancing into stocks during this time.
Thanks.
John C. Bogle: “Simplicity is the master key to financial success."
Re: Why bonds??
If you are considering your retirement account as a black box that you are not allowed to open until retirement anyway (which is not quite accurate since you can access the moeny in a whole lot of ways, even avoiding the panelties) - than whatever happens now is meaning less to you and you should pick whatever gives the best chance for a high return - 100 % stocks.
Anything deviating from that is just for the irrational side of the human being owning the account.
It gets much more interesting 15-5 years in front of your intended retirement, when you need to start planning to actually open th eblack box and take money out of it...thats when you want to have a cushion in cash (aka bonds) to draw from for enough time to recover any stock tumble.
And there is the slight ability to time the market by shuffling money from bonds to stock in the so called asset allocation...which can earn you money in a cyclical market.
Now look at the S+P500 and see that we just (in the last couple of months) passed the old all time high from 2000. So, in the last 14 years stocks have not given you ANY return on investment (buy and hold, ignore dividends for a second) - thats a far cry form the hoped 6 % per year. Bonds at the same time gave you at least a little bit - even if it was not breathtaking (I ignored dividends and inflation both for simplicity reasons).
No imagine how you retired in 2000 and what would have happened to you ?
Anything deviating from that is just for the irrational side of the human being owning the account.
It gets much more interesting 15-5 years in front of your intended retirement, when you need to start planning to actually open th eblack box and take money out of it...thats when you want to have a cushion in cash (aka bonds) to draw from for enough time to recover any stock tumble.
And there is the slight ability to time the market by shuffling money from bonds to stock in the so called asset allocation...which can earn you money in a cyclical market.
Now look at the S+P500 and see that we just (in the last couple of months) passed the old all time high from 2000. So, in the last 14 years stocks have not given you ANY return on investment (buy and hold, ignore dividends for a second) - thats a far cry form the hoped 6 % per year. Bonds at the same time gave you at least a little bit - even if it was not breathtaking (I ignored dividends and inflation both for simplicity reasons).
No imagine how you retired in 2000 and what would have happened to you ?
Everything you read in this post is my personal opinion. If you disagree with this disclaimer, please un-read the text immediately and destroy any copy or remembrance of it.
- UliKunkel1953
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Re: Why bonds??
I just realized a somewhat intangible motivation I have for including bonds in my portfolio. I'm troubled by the absolute certainty with which some people state you should be 100% equities. Who can be so certain about the present, much less the future? So, to me, I see one side that says, "trust me, guy, invest everything in stocks," and another side that says, "I could be wrong, but you might want to throw in some bonds, because you never know." Specifics aside, the second approach appeals to me in and of itself.
- Taylor Larimore
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Volatility
John:I don't see a reason to put even 10% into VBTLX (Total Bond Market) yet. We are both 30 years old and consider ourselves 25 years away from retirement. I realize there is a lot to consider, but looking at things at a very basic level, why do I need bonds now?
Very few investors can tolerate the volatility of a 100% equity portfolio. I'll explain:
From its peak in October 2007, to its trough on March 2009, the S&P 500 Index plunged 60%.
Investors didn't know how much more money they would continue to lose (The Dow plunged 89% in the 30s). Many investors panic and sell in bear markets. Investors with 100% stock portfolios who don't sell spend a lot of time worrying.
The climb back can take a very long time. A 60% loss requires a 150% return to recover. Volatility can be costly to both our wallet and to our peace of mind. This is one reason why nearly all experienced investors recommend bonds (or other fixed-income securities) in a portfolio.
Best wishes.
Taylor
"Simplicity is the master key to financial success." -- Jack Bogle
Re: Why bonds??
To the OP, "johnvcle":
I'm not a heavy hitter on this forum; I mean that I don't have that much invested and don't know much about the minutiae of investing. My money is almost pocket change compared to some of the folks here.
But, I remember when I bought into the idea that a pension and Social Security were "bond equivalents". IMHO that is baloney; it is a rationalization to fool yourself that you can go 100% (or a high percentage) stocks. It makes you more macho than you really are, which the next stock drop will (Sob!) prove to you.
As I said, I had these "bonds", but the last drop in the 2000's brought home to me that they weren't really bonds at all. They were a welcome income stream to be sure, but the sudden drop in stock prices were a slap in the face that woke me to the fact that I wasn't as macho as I thought I was!
You may think you are immune to panic (maybe you are), but don't overlook the possibility that panic may cause you to do silly things. This forum is filled with threads by people who "got out" and are now dithering about when or how to "get in".
Now I'm in a balanced fund (VBIAX) that is 60/40 stock/bond. The old feeling of overconfidence is creeping back. I look at a chart comparing VBIAX to the total stock market (VTSMX) and see the total stock market index way above the VBIAX line and greed raises its head. Oh, look at how much money I'm "losing" by not being all in VTSMX.
But I remember, and I fight my greed, because another drop will come again (I just don't know when, but I'm sure it will be inconvenient).
I'm not a heavy hitter on this forum; I mean that I don't have that much invested and don't know much about the minutiae of investing. My money is almost pocket change compared to some of the folks here.
But, I remember when I bought into the idea that a pension and Social Security were "bond equivalents". IMHO that is baloney; it is a rationalization to fool yourself that you can go 100% (or a high percentage) stocks. It makes you more macho than you really are, which the next stock drop will (Sob!) prove to you.
As I said, I had these "bonds", but the last drop in the 2000's brought home to me that they weren't really bonds at all. They were a welcome income stream to be sure, but the sudden drop in stock prices were a slap in the face that woke me to the fact that I wasn't as macho as I thought I was!
You may think you are immune to panic (maybe you are), but don't overlook the possibility that panic may cause you to do silly things. This forum is filled with threads by people who "got out" and are now dithering about when or how to "get in".
Now I'm in a balanced fund (VBIAX) that is 60/40 stock/bond. The old feeling of overconfidence is creeping back. I look at a chart comparing VBIAX to the total stock market (VTSMX) and see the total stock market index way above the VBIAX line and greed raises its head. Oh, look at how much money I'm "losing" by not being all in VTSMX.
But I remember, and I fight my greed, because another drop will come again (I just don't know when, but I'm sure it will be inconvenient).
pjstack
Re: Why bonds??
Where is it written that equities can't drop more than 50%?abuss368 wrote:If you can stomach the possibility of equities dropping 50% in a downturn go for 100% stocks.
Benjamin Graham who was Warren Buffett's mentor recommended all portfolio have at least 25% in bonds.
I found during the 2007 - 2009 financial crisis that having some "dry powder" as Jack Bogle calls it, combined with new contributions, was invaluable to re-balancing into stocks during this time.
Thanks.
BTW, Ben Graham recommended at least 25% bonds but no more than 75% bonds.
Re: Why bonds??
More than that, if we are really going to be conservative, consider the possibility of a 90% drop like the great depression, or a 50% drop that does not recover much for decades, like Japan. That is why I hold a healthy amount of bonds, age -10. I can wait, but don't want to be forced to sell stocks at a loss if it means waiting 10 or even 20 years for the recovery. Remember too that in the worst times, you are far more likely to become unemployed too. Being a conservative investor means preparing for the worst scenario that nevertheless allows for an eventual recovery, that would be the Great Depression. Anything worse, such as a total collapse of the economy or government, cannot be buffered by investing strategies at all. At that point, it is gold, guns, and bags of rice. And I don't even know about the gold part.abuss368 wrote:If you can stomach the possibility of equities dropping 50% in a downturn go for 100% stocks.
70% Global Stocks / 30% Bonds
Re: Why bonds??
Guys, it's really too soon after the megathread that eventually started spinning in place and got locked for lack of progress to be going over this again. Let's give it a few months.
The OP will find PLENTY of reading over there.
The OP will find PLENTY of reading over there.
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Re: Why bonds??
Your wife's opinion and an understanding of how being unemployed and watching all your holdings lose a significant amount of money could affect her mood. If she's not on the same page and you do experience uncomfortable turbulence, then I think your uncomfortableness will not be acceptable. Those things may well never happen but you need to have planned for the possibility.Johnvcle wrote: So what am I missing???
Re: Why bonds??
That's a blemish on an otherwise excellent post. "Here's a thing that makes money. Let's ignore the money it makes. See - it doesn't make money!"deikel wrote:Now look at the S+P500 and see that we just (in the last couple of months) passed the old all time high from 2000. So, in the last 14 years stocks have not given you ANY return on investment (buy and hold, ignore dividends for a second) - thats a far cry form the hoped 6 % per year. Bonds at the same time gave you at least a little bit - even if it was not breathtaking (I ignored dividends and inflation both for simplicity reasons).
Re: Why bonds??
If we are talking about 10% bonds vs 0% bonds, there's very little difference. All the great benefits in the previous replies come in when you have more in bonds, try 30%, 40%, or 50%. Do the same chart for Vanguard Target 2050 fund (90% stocks) versus Total Stock Market fund. See how it possibly can stop you from bailing out in 2008 by dropping 34.6% versus dropping 37%. Then you would ask why bother with 10% bonds.Johnvcle wrote:I realize that vanguard's target retirement 2060 fund contains approximately 10% bonds. I also acknowledge that they know a little more than I do about investing
Harry Sit has left the forums.
Re: Why bonds??
Why bonds?Johnvcle wrote:Quick question for everyone. This came up in my other post...
Just looking very basically at asset allocation, why are bonds recommended at all when still 25 years or more away from retirement?
I am in the process of moving my wife's roth ira to vanguard. I will be investing in VTSAX and VTIAX. I dont see a reason to put even 10% into VBTLX yet. We are both 30 years old and consider ourselves 25 years away from retirement. I realize there is alot to consider, but looking at things at a very basic level, why do I need bonds now?
'According to Jeremy Siegel's Stocks for the Long Run, for every rolling five-year investing period from 1802 to 2002 (i.e., 1802-1807, 1803-1808, etc.), stocks outperformed bonds 80% of the time. Stocks beat bonds for 90% of the rolling 10-year periods, and essentially 100% of the rolling 30-year periods. For holding periods of 17 years or more, stocks have always beaten inflation, a claim bonds can't make."
I realize that vanguard's target retirement 2060 fund contains approximately 10% bonds. I also acknowledge that they know a little more than I do about investing
So what am I missing???
Again? This is starting to sound like some kind of campaign to push Stocks for the Long Run.
First, I'll give a short answer.
You need exactly $1 million dollars on Mar 15, 2015.
You have at least $998,100 today
So you buy a 2015 Mar 15 Treasury STRIP for 99.810 that will be worth exactly 100 on 3/15/2015.
Re: Why bonds??
Why Bonds?
The long answer:
Not everyone needs bonds. When I read the original 1973 edition of A Random Walk Down Wall Street, I don't recall advice to include any bonds. As far as I recall, Malkiel only said stock index funds. So I was pretty much 100% S&P500 from early 1980s until about 2000. (Not exactly, but close enough.)
Suppose you are 26 years old and earn $100,000 in 2014. You spend $75,000 and save $25,000.
You plan to retire at age 66, 40 years hence in 2054.
You would like that $25,000 savings to grow to $100,000 after inflation, i.e. real dollars, to fund your spending on consumption in 2054.
What is the best way to grow 25,000 into 100,000 real? savings account? CD? stocks? bonds? 75/25, 60/40, 50/50?
Answer: 100% stocks. (BTW, last year, I posed this question to Bogleheads and most agreed that 100% or 90% stocks was the answer.)
In 2014,invest the $25,000 in broad index like TSM/TISM or Total World Stock Index.
Reinvest the dividends and watch it grow.
Where do bonds come into play?
Well, at some point, maybe 25 or 35 years from now, the stock balance will be worth enough to purchase a TIPS bond with a face value of $100,000 that matures in 2054. Let's say this happens in 2044. When that point is reached, sell the stock, buy a 2054 $100,000 TIPS bond and you have achieved your goal.
So in this example, you were in 100% stock for 30 years, then switched to a default-free inflation bond for final 10 years. You actually won the game in 2044.
Now you could stay 100% stocks the whole 40 years, right up until are 66, and you will probably have more money. But the risk is that the $100,000 might drop to $50,000 one year before you need the money and you won't reach you goal.
As Bernstein says, when you have won the game, why keep playing?
Quit while your ahead. That's where bonds come in. Unlike stocks, bonds will guarantee you a certain amount on a certain date.
Edit: I am adding some hypothetical numbers to concretize this idea
First, inflation-adjusted dollars.
at 2% inflation, 100,000 2014-dollars would be 220,804 2054-dollars
at 3% inflation, 100,000 2014-dollars would be 326,204 2054-dollars
But to keep it simple I will do all calculations in real dollars
To reach goal of $25,000 -> $100,000 would require 3.5265% p.a.
Anything less than that will FAIL to achieve goal. E.g. 3.00% pa would reach only $81,551, which is FAIL according to the way the problem is defines. (This is hypothetical problem. In real life, you would adjust.)
Anything above 3.5% would reach goal ahead of schedule. E.g. 4.5% pa reaches $100,000 by 2046 and 6% pa by 2038.
Suppose 10,20,30- year TIPS are yielding 1,1.5,2 percent.
If stock return is 4.5% pa for the first 30 years, you could switch to a 10-year TIPS in 2044 and have $103,429 by 2054
If stock return is 6% pa for the first 20 years, you could switch to a 20-year TIPS in 2034 and have $107,989 by 2054
So that is the idea of locking in the win if you have won the game early. It's like in a Grand Master chess tournament. When they see checkmate is inevitable they don't bother playing to the end.
The long answer:
Not everyone needs bonds. When I read the original 1973 edition of A Random Walk Down Wall Street, I don't recall advice to include any bonds. As far as I recall, Malkiel only said stock index funds. So I was pretty much 100% S&P500 from early 1980s until about 2000. (Not exactly, but close enough.)
Suppose you are 26 years old and earn $100,000 in 2014. You spend $75,000 and save $25,000.
You plan to retire at age 66, 40 years hence in 2054.
You would like that $25,000 savings to grow to $100,000 after inflation, i.e. real dollars, to fund your spending on consumption in 2054.
What is the best way to grow 25,000 into 100,000 real? savings account? CD? stocks? bonds? 75/25, 60/40, 50/50?
Answer: 100% stocks. (BTW, last year, I posed this question to Bogleheads and most agreed that 100% or 90% stocks was the answer.)
In 2014,invest the $25,000 in broad index like TSM/TISM or Total World Stock Index.
Reinvest the dividends and watch it grow.
Where do bonds come into play?
Well, at some point, maybe 25 or 35 years from now, the stock balance will be worth enough to purchase a TIPS bond with a face value of $100,000 that matures in 2054. Let's say this happens in 2044. When that point is reached, sell the stock, buy a 2054 $100,000 TIPS bond and you have achieved your goal.
So in this example, you were in 100% stock for 30 years, then switched to a default-free inflation bond for final 10 years. You actually won the game in 2044.
Now you could stay 100% stocks the whole 40 years, right up until are 66, and you will probably have more money. But the risk is that the $100,000 might drop to $50,000 one year before you need the money and you won't reach you goal.
As Bernstein says, when you have won the game, why keep playing?
Quit while your ahead. That's where bonds come in. Unlike stocks, bonds will guarantee you a certain amount on a certain date.
Edit: I am adding some hypothetical numbers to concretize this idea
First, inflation-adjusted dollars.
at 2% inflation, 100,000 2014-dollars would be 220,804 2054-dollars
at 3% inflation, 100,000 2014-dollars would be 326,204 2054-dollars
But to keep it simple I will do all calculations in real dollars
To reach goal of $25,000 -> $100,000 would require 3.5265% p.a.
Anything less than that will FAIL to achieve goal. E.g. 3.00% pa would reach only $81,551, which is FAIL according to the way the problem is defines. (This is hypothetical problem. In real life, you would adjust.)
Anything above 3.5% would reach goal ahead of schedule. E.g. 4.5% pa reaches $100,000 by 2046 and 6% pa by 2038.
Suppose 10,20,30- year TIPS are yielding 1,1.5,2 percent.
If stock return is 4.5% pa for the first 30 years, you could switch to a 10-year TIPS in 2044 and have $103,429 by 2054
If stock return is 6% pa for the first 20 years, you could switch to a 20-year TIPS in 2034 and have $107,989 by 2054
So that is the idea of locking in the win if you have won the game early. It's like in a Grand Master chess tournament. When they see checkmate is inevitable they don't bother playing to the end.
Last edited by grayfox on Mon Mar 03, 2014 12:50 am, edited 1 time in total.
Re: Why bonds??
+1 this makes sense to me. The only thing I would question is: when you retire, you only need a year's worth of living expenses at a time and most of that money can be sitting there for 20, 30 or more years, so why not leave it in stocks the entire time and just buy a year or two of living expenses as you go. Also, if you include social security and a paid off house, you won't need as much monthly income, so in a sense, you can afford to take more risk and that could result in leaving more to your heirs or charties. One of the main things if you follow this strategy is you really need to listen to John Bogle and follow one of his golden rules and don't peak at your portfolio. I like what Warren says here.grayfox wrote:Why Bonds?
The long answer:
Not everyone needs bonds. When I read the original 1973 edition of A Random Walk Down Wall Street, I don't recall advice to include any bonds. As far as I recall, Malkiel only said stock index funds. So I was pretty much 100% S&P500 from early 1980s until about 2000. (Not exactly, but close enough.)
Suppose you are 26 years old and earn $100,000 in 2014. You spend $75,000 and save $25,000.
You plan to retire at age 66, 40 years hence in 2054.
You would like that $25,000 savings to grow to $100,000 after inflation, i.e. real dollars, to fund your spending on consumption in 2054.
What is the best way to grow 25,000 into 100,000 real? savings account? CD? stocks? bonds? 75/25, 60/40, 50/50?
Answer: 100% stocks. (BTW, last year, I posed this question to Bogleheads and most agreed that 100% or 90% stocks was the answer.)
In 2014,invest the $25,000 in broad index like TSM/TISM or Total World Stock Index.
Reinvest the dividends and watch it grow.
Where do bonds come into play?
Well, at some point, maybe 25 or 35 years from now, the stock balance will be worth enough to purchase a TIPS bond with a face value of $100,000 that matures in 2054. Let's say this happens in 2044. When that point is reached, sell the stock, buy a 2054 $100,000 TIPS bond and you have achieved your goal.
So in this example, you were in 100% stock for 30 years, then switched to a default-free inflation bond for final 10 years. You actually won the game in 2044.
Now you could stay 100% stocks the whole 40 years, right up until are 66, and you will probably have more money. But the risk is that the $100,000 might drop to $50,000 one year before you need the money and you won't reach you goal.
As Bernstein says, when you have won the game, why keep playing?
Quit while your ahead. That's where bonds come in. Unlike stocks, bonds will guarantee you a certain amount on a certain date.
https://www.youtube.com/watch?v=Pmr-pXZLOe4
Choose Simplicity ~ Stay the Course!! ~ Press on Regardless!!!
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Re: Why bonds??
Good thoughts. I also like how Jack Bogle advises to simple own Total Bond Market Index. No TIPS, High Yield, Foreign debt, etc.stemikger wrote:+1 this makes sense to me. The only thing I would question is: when you retire, you only need a year's worth of living expenses at a time and most of that money can be sitting there for 20, 30 or more years, so why not leave it in stocks the entire time and just buy a year or two of living expenses as you go. Also, if you include social security and a paid off house, you won't need as much monthly income, so in a sense, you can afford to take more risk and that could result in leaving more to your heirs or charties. One of the main things if you follow this strategy is you really need to listen to John Bogle and follow one of his golden rules and don't peak at your portfolio. I like what Warren says here.grayfox wrote:Why Bonds?
The long answer:
Not everyone needs bonds. When I read the original 1973 edition of A Random Walk Down Wall Street, I don't recall advice to include any bonds. As far as I recall, Malkiel only said stock index funds. So I was pretty much 100% S&P500 from early 1980s until about 2000. (Not exactly, but close enough.)
Suppose you are 26 years old and earn $100,000 in 2014. You spend $75,000 and save $25,000.
You plan to retire at age 66, 40 years hence in 2054.
You would like that $25,000 savings to grow to $100,000 after inflation, i.e. real dollars, to fund your spending on consumption in 2054.
What is the best way to grow 25,000 into 100,000 real? savings account? CD? stocks? bonds? 75/25, 60/40, 50/50?
Answer: 100% stocks. (BTW, last year, I posed this question to Bogleheads and most agreed that 100% or 90% stocks was the answer.)
In 2014,invest the $25,000 in broad index like TSM/TISM or Total World Stock Index.
Reinvest the dividends and watch it grow.
Where do bonds come into play?
Well, at some point, maybe 25 or 35 years from now, the stock balance will be worth enough to purchase a TIPS bond with a face value of $100,000 that matures in 2054. Let's say this happens in 2044. When that point is reached, sell the stock, buy a 2054 $100,000 TIPS bond and you have achieved your goal.
So in this example, you were in 100% stock for 30 years, then switched to a default-free inflation bond for final 10 years. You actually won the game in 2044.
Now you could stay 100% stocks the whole 40 years, right up until are 66, and you will probably have more money. But the risk is that the $100,000 might drop to $50,000 one year before you need the money and you won't reach you goal.
As Bernstein says, when you have won the game, why keep playing?
Quit while your ahead. That's where bonds come in. Unlike stocks, bonds will guarantee you a certain amount on a certain date.
https://www.youtube.com/watch?v=Pmr-pXZLOe4
John C. Bogle: “Simplicity is the master key to financial success."
Re: Why bonds??
I started out very conservative when I started investing as a young 24 year old. I barely dipped my toe into the stock market with the purchase of my first mutual fund in 1984. Three years later, the stock market crashed 22% in one day and I lost hundreds of dollars. Emotionally it felt like I lost all the money in the world. The fund was still worth more than what I had put into it but it felt like my world had ended.
Gradually as the bull market of the 1980's and 1990's roared on, I got to be more and more aggressive. My retirement accounts got to be more than 90% stocks. I dialed back to about 70% stocks/30% fixed income in early 2000 before the crash. I am glad I did. The fixed income made the bear markets of 2000-2002 and 2008-2009 more bearable. My losses were about 35% each time. Tough to take but barely tolerable.
It is amazing how bull markets make us all feel very smart and very adventuresome. Risk tolerance goes up when the stock market goes up.
I didn't rebalance my portfolio from stocks to bonds in 2007. I was 72% stocks and 28% fixed income and I should have dialed the stocks back. The market rebalanced for me. In 2013, with a strong stock market, I vowed that I would not make the same mistake. So I started a mild rebalancing program and I have kept to a 69% stocks and 31% fixed income portfolio. I have been buying bond funds like crazy but it barely budged the needle. I probably should do more.
Gradually as the bull market of the 1980's and 1990's roared on, I got to be more and more aggressive. My retirement accounts got to be more than 90% stocks. I dialed back to about 70% stocks/30% fixed income in early 2000 before the crash. I am glad I did. The fixed income made the bear markets of 2000-2002 and 2008-2009 more bearable. My losses were about 35% each time. Tough to take but barely tolerable.
It is amazing how bull markets make us all feel very smart and very adventuresome. Risk tolerance goes up when the stock market goes up.
I didn't rebalance my portfolio from stocks to bonds in 2007. I was 72% stocks and 28% fixed income and I should have dialed the stocks back. The market rebalanced for me. In 2013, with a strong stock market, I vowed that I would not make the same mistake. So I started a mild rebalancing program and I have kept to a 69% stocks and 31% fixed income portfolio. I have been buying bond funds like crazy but it barely budged the needle. I probably should do more.
A fool and his money are good for business.
Re: Why bonds??
Why Bonds?
Sorry this took so long to respond to you, I have been busy but wanted to post something away....
This is one of the ways I look at bonds in my portfolio:
So, you have this slice of heavy risk equity, say REITS. Well, the risk you took on REITS happens to payoff in spades. Now, as Bernstein says, when you have won the game, why keep playing? These gains could be temporary and are still risky. Why not take the house money and rebalance your portfolio into bonds? The house money will become less risky and in your case have 40+ years of compounding interest to make you feel better.
I read somewhere that Vanguard stated that there have only been a handful of years when people actually rebalanced out of bonds into equity. Equity returns are the engine of your portfolio and bonds allow you to hopefully "bank" some of those returns to grow your overall portfolio.
Also, as stated previously by other posters, if your REITS risk shows up, your in for a long haul. Your bonds during this time should do better or at least lose less. Think of the previous house money in those bonds earning compounding interest.
Remember this is about building your nest egg and not being the star hedge fund manager for this year only. Take advantage of the time tested investing fundamentals of diversification, buy and hold, rebalance and "stay the course".
Just some thoughts.....
Sorry this took so long to respond to you, I have been busy but wanted to post something away....
This is one of the ways I look at bonds in my portfolio:
So, you have this slice of heavy risk equity, say REITS. Well, the risk you took on REITS happens to payoff in spades. Now, as Bernstein says, when you have won the game, why keep playing? These gains could be temporary and are still risky. Why not take the house money and rebalance your portfolio into bonds? The house money will become less risky and in your case have 40+ years of compounding interest to make you feel better.
I read somewhere that Vanguard stated that there have only been a handful of years when people actually rebalanced out of bonds into equity. Equity returns are the engine of your portfolio and bonds allow you to hopefully "bank" some of those returns to grow your overall portfolio.
Also, as stated previously by other posters, if your REITS risk shows up, your in for a long haul. Your bonds during this time should do better or at least lose less. Think of the previous house money in those bonds earning compounding interest.
Remember this is about building your nest egg and not being the star hedge fund manager for this year only. Take advantage of the time tested investing fundamentals of diversification, buy and hold, rebalance and "stay the course".
Just some thoughts.....
Information is more valuable sold than used. - Fischer Black (1938-1995)
Re: Why bonds??
I have VBMPX (total bond index) representing bonds in my portfolio (25% of AA overall). i like the simplicity of this approach, although i'm worried that the fund has too many corporate bonds (25% of holdings) and not enough treasuries (37% of holdings.) but, it's literally the only bond option in my 403(b), so it's good enough.
between scotch and nothing, i'll take scotch. -- faulkner
- Taylor Larimore
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Worried ?
ERMD:ERMD wrote:I have VBMPX (total bond index) representing bonds in my portfolio (25% of AA overall). i like the simplicity of this approach, although i'm worried that the fund has too many corporate bonds (25% of holdings) and not enough treasuries (37% of holdings.) but, it's literally the only bond option in my 403(b), so it's good enough.
Don't worry about not enough treasuries. Many Bogleheads worry about too many treasuries in VBMPX.
Best wishes.
Taylor
"Simplicity is the master key to financial success." -- Jack Bogle
Re: Why bonds??
Why bonds?
Where have all the Why Bonds and 100% Equities conversations gone?
Thanks for reading.
Where have all the Why Bonds and 100% Equities conversations gone?
Thanks for reading.
~ Member of the Active Retired Force since 2014 ~
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Re: Why bonds??
Good post. The 100% equity threads seemed to have disappeared.cfs wrote:Why bonds?
Where have all the Why Bonds and 100% Equities conversations gone?
Thanks for reading.
John C. Bogle: “Simplicity is the master key to financial success."
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Re: Why bonds??
We are in an era of (cue spooky music) Financial Repression and it can't go on. Sooner or later, interest rates will fling off the repressive shackles that bind them and surge, soar, skyrocket, UP, and when they do--you may not know this--but when interest rates go UP, do you know what direction your bonds go in? DOWN, that's what direction! Whoa Nellie! Katy bar the door! Danger, Will Robinson! I have a bad feeling about this!
That day may come. But it is not this day.
(Black: stocks. Orange: bonds)
That day may come. But it is not this day.
(Black: stocks. Orange: bonds)
Last edited by nisiprius on Fri Aug 01, 2014 3:57 pm, edited 1 time in total.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.
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Re: Why bonds??
The great bond "crash" that has been predicted for years!nisiprius wrote:We are in an era of (cue spooky music) Financial Repression and it can't go on. Sooner or later, interest rates will fling off the repressive shackles that bind them and surge, soar, skyrocket, UP, and when they do--you may not know this--but when interest rates go UP, do you know what direction your bonds go in? DOWN, that's what direction! Whoa Nellie! Katy bar the door! Danger, Will Robinson! I have a bad feeling about this!
That day may come. But it is not this day.
John C. Bogle: “Simplicity is the master key to financial success."