Coming Bond Market Crash

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Re: Coming Bond Market Crash

Postby nisiprius » Mon Jan 07, 2013 11:55 am

Rodc wrote:
Yes, but again, it really muddies the waters when one mixes up inflation risk and interest risk. You are talking about a combination of interest rate effects and inflation rate effects.
It is what it is. It was what happened.
One last rant and I'll (try to) stop. Yes, but the purveyors of "bond crash" rhetoric use interest rate risk as their reason for why bonds are dangerous. Look at the Siegel and Schwartz article and tell me where inflation is mentioned. It isn't.

The situation is complex. It is interesting to try to discuss it from as many viewpoints as possible. Inflation risk is very serious. TIPS exist. But the argument that "a crash far more serious than the tech crash is inevitable because interest rates must rise" is simplistic and gets in the way of accurately judging the situation.
Doc wrote:
nisi wrote:Do you remember a bond "crash" during that period of time? Me, neither.

I guess it all depends on the postion of the observer.

Image

Price chart.

Vanguard Intermediate down 15% (blue), Vanguard TIPS down 15% (green), Vanguard Intermediate Treasuries (orange) not so much.

So if you only look at Total Bond Market and only look at growth where the dividends offset the price drop you can't see the trees for the forest. And if you never try to rebalance into equites when the equity market tanks you don't give a RA anyway so why bother to look at anything?
Are you trying to tell me that a 15% drop is to be considered as properly described by "far more serious consequences for investors" than a 70% tech stock drop?
Last edited by nisiprius on Mon Jan 07, 2013 12:00 pm, edited 2 times in total.
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Re: Coming Bond Market Crash

Postby Call_Me_Op » Mon Jan 07, 2013 11:57 am

reggiesimpson wrote:I buy bonds because they are not stocks (the fear and greed debate). I buy it with the intention of keeping it to maturity and collecting the interest along the way. I dont concern myself with the fluctuation in price (interest rates) because i know going in that its going to fluctuate. I came to terms with that years ago. I have always gotten my "$1000" back so thats resolved thank you. The primary question one may ask themselves is to individually ladder the bonds yourself or buy a fund and let them do it? IMHO.


What you say is basically true if you are talking about treasuries. But mutual funds that invest in bonds other than treasuries have a type of risk not seen when individual issues are used. This risk goes by at least few names, two being "sell-off risk" and "redemption risk."
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Re: Coming Bond Market Crash

Postby HenryPorter » Mon Jan 07, 2013 12:10 pm

dbcoop wrote:
HenryPorter wrote:No bond crash if rates are raised in a friendly way.
I'm bewildered, how might that be?



Mr. Market will have to have its ear to the ground and get the telegraphing that the Fed or whoever does about impending rate increases.

I do not know how many members here buy individual bonds, but buying long-term and/or intermediate term issues individually could be not so ducky IMHO if they are bought for 2% rate and we have 3% standard rates( -ie- CDs with that rate, etc.) a few years from now. You all know that though. What will the market give you for those 2% bonds then if you need to sell?

Maybe it has been discussed here ad nauseum , but bond funds seem the best choice to allocate to. I like BND myself. I'd pick up some more I-bonds in the years to come if the core rate(s) get above 0%.

Cracks me up when I go into banks and see posted rates for savings and CDs ~ 0.1% . Rates this low are a gift to someone, but not for me and my bond or CD or savings positioning.
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Re: Coming Bond Market Crash

Postby Doc » Mon Jan 07, 2013 12:22 pm

nisiprius wrote:Are you trying to tell me that a 15% drop is to be considered as similar to "far more serious consequences for investors" than the 70% tech stock drop?


Let's see. Total Stock Market ~20% tech (now). So with a 50/50 AA the equity loss is $50*.2*.7=$7.00 and FI loss is $50*.15=$7.50 :shock:

Actually all I am saying is that if your IPS has you agressively rebalancing into an equity bear market having your FI in the wrong sectors can be painful. If you only look at TBM and growth charts the pain is not that obvious. If your IPS has you rebalancing every January come what may - "forget about it".
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Re: Coming Bond Market Crash

Postby reggiesimpson » Mon Jan 07, 2013 12:38 pm

Call_Me_Op wrote:
reggiesimpson wrote:I buy bonds because they are not stocks (the fear and greed debate). I buy it with the intention of keeping it to maturity and collecting the interest along the way. I dont concern myself with the fluctuation in price (interest rates) because i know going in that its going to fluctuate. I came to terms with that years ago. I have always gotten my "$1000" back so thats resolved thank you. The primary question one may ask themselves is to individually ladder the bonds yourself or buy a fund and let them do it? IMHO.


What you say is basically true if you are talking about treasuries. But mutual funds that invest in bonds other than treasuries have a type of risk not seen when individual issues are used. This risk goes by at least few names, two being "sell-off risk" and "redemption risk."

Agreed. To ladder oneself and/or use a bond fund is a big question. I would add that as one gets older the fund approach appears to be more attractive
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Re: Coming Bond Market Crash

Postby Rodc » Mon Jan 07, 2013 12:50 pm

One last rant and I'll (try to) stop. Yes, but the purveyors of "bond crash" rhetoric use interest rate risk as their reason for why bonds are dangerous. Look at the Siegel and Schwartz article and tell me where inflation is mentioned. It isn't.


So? If someone thinks the risk in stocks is only that P/E fluctuates I can't mention other risks? I can only introduce time periods where that was the only influence? Is the Siegel and Schwartz article the be and and all of the discussion?

All I am doing is introduction a dose of historical reality and making the important point that a look at one 2 or 3 year period does not tell much of a story. Anyone can ignore this historical reality if they wish, think it can't repeat, etc.

The situation is complex. It is interesting to try to discuss it from as many viewpoints as possible. Inflation risk is very serious. TIPS exist. But the argument that "a crash far more serious than the tech crash is inevitable because interest rates must rise" is simplistic and gets in the way of accurately judging the situation.


Has anyone ever really said that bonds will crash worse than tech in 2001 (magnitude and speed) due to interest rates must rise? If so, I would take that up with them and agree that is not realistic.

The bottom line is some people are overly bearish on bonds and over estimate their risk. Others are overly bullish on bonds and underestimate their risks. I'm, trying to hit a middle ground. I don't think bonds are terribly risky, but the fact is that bonds have at times been pretty bad, and that this reflected in the historical record.
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Re: Coming Bond Market Crash

Postby athrone » Mon Jan 07, 2013 2:11 pm

nisiprius wrote:What do people think a bond market "crash" might consist of? The silly bond is only going to pay back $1,000 when it matures, no matter what. Just how much of a mania can possibly develop over the prospect of getting $1,000 on, let's say, January 15, 2022?


Headline of every Newspaper across the U.S, March 13, 2014:

"United States issues New Dollar, Old Dollars set to be exchanged at a rate of 10:1"

You just lost 90% of your fixed income assets overnight.

Or.

"U.S. Bureau of Labor Statistics releases CPI figures for January 2022: Inflation still in excess of 7% a year. 10-year yields for Treasuries holding steady at 1.54% "

You just lost 50% of your fixed income assets over a 10 year period.
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Re: Coming Bond Market Crash

Postby Nicho_1978 » Mon Jan 07, 2013 2:19 pm

athrone wrote:
nisiprius wrote:What do people think a bond market "crash" might consist of? The silly bond is only going to pay back $1,000 when it matures, no matter what. Just how much of a mania can possibly develop over the prospect of getting $1,000 on, let's say, January 15, 2022?


Headline of every Newspaper across the U.S, March 13, 2014:

"United States issues New Dollar, Old Dollars set to be exchanged at a rate of 10:1"

You just lost 90% of your fixed income assets overnight.

Or.

"U.S. Bureau of Labor Statistics releases CPI figures for January 2022: Inflation still in excess of 7% a year. 10-year yields for Treasuries holding steady at 1.54% "


You just lost 50% of your fixed income assets over a 10 year period.



Why muddy the waters with gross exaggeration like that. Everyone knows those scenarios are unlikely so why even post that? Keep it realistic so people like me who are on here genuinely seeking advice can make the best decision.
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Re: Coming Bond Market Crash

Postby Tom_T » Mon Jan 07, 2013 3:19 pm

Nicho_1978 wrote:
athrone wrote:
nisiprius wrote:What do people think a bond market "crash" might consist of? The silly bond is only going to pay back $1,000 when it matures, no matter what. Just how much of a mania can possibly develop over the prospect of getting $1,000 on, let's say, January 15, 2022?


Headline of every Newspaper across the U.S, March 13, 2014:

"United States issues New Dollar, Old Dollars set to be exchanged at a rate of 10:1"

You just lost 90% of your fixed income assets overnight.

Or.

"U.S. Bureau of Labor Statistics releases CPI figures for January 2022: Inflation still in excess of 7% a year. 10-year yields for Treasuries holding steady at 1.54% "


You just lost 50% of your fixed income assets over a 10 year period.



Why muddy the waters with gross exaggeration like that. Everyone knows those scenarios are unlikely so why even post that? Keep it realistic so people like me who are on here genuinely seeking advice can make the best decision.

Also, if dollars were to be exchanged 10-to-1, all of my investments would have dropped by 90 percent overnight. And so would my salary, my cable bill, and mortgage, and the price of gas, and everything else.
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Re: Coming Bond Market Crash

Postby athrone » Mon Jan 07, 2013 3:37 pm

Nicho_1978 wrote:Why muddy the waters with gross exaggeration like that. Everyone knows those scenarios are unlikely so why even post that? Keep it realistic so people like me who are on here genuinely seeking advice can make the best decision.


This "gross exaggeration" has already happened many times in the last century, including several in the currency we are talking about e.g. Greece (in progress), Iceland 2008, United States 1968, United States 1934.

As far as "Keeping it realistic"

2011 CPI Inflation: 3.16%
Current 10 Year Treasury Yield 1.93%


IMHO, posters issuing aggressive verbiage towards others without any backdrop of fact/substance should be subject to bans.
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Re: Coming Bond Market Crash

Postby bikenfool » Mon Jan 07, 2013 3:39 pm

midareff wrote:There is an exercsie that is pretty easy to do to determine the effects...... granted this is rough but it should be in the ball park. Total Bond Market currently has an SEC of 1.49% and a duration of 5.2 years. We don't have to repeat the last rising interest rise scenario when the FED increased rates at 17 consecutive meetings a few years ago .. starting from a much more favorable 4%, but let's start with a 3/4 % per year rise for 4 years with 3% inflation (a lowball for the rate rise). The first year TBM has an SEC of 2.24 % to offset a 3.9 % price drop and has a loss of (pre-inflation) 1.66%. Second year the SEC has risen to 2.99 % to offset a 3.9 % price drop and the fund has lost another .91 %. Third year the SEC has risen to 3.74 % to offset another 3.9 % price drop .... fund losses another .16 %. Year four, SEC becomes 4.49 % to offset the 3.9 % price drop... fund is up .59 % for the year or a four year total of -2.14 %. Unfortunately that goes with a four year inflation of (conservatively) 12 % . You have lost about 14 % in purchasing power.

While this is all speculative it does put a flashlight on the relationship between SEC and duration.

If I take this exercise a little further, out to 6 years, with reinvestment of interest, at 5 years the value has almost recovered, and at 6 the return is positive.
Code: Select all
   
    Balance  Return
    0.9834   -1.6600
    0.9745   -0.8949
    0.9729   -0.1559
    0.9786    0.5740
    0.9917    1.3114
    1.0125    2.0727

A smaller rate increase is absorbed almost right away, a larger one could take a long time. I'm sure this is obvious to the smart guys in the room, but it was informative to me.
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Re: Coming Bond Market Crash

Postby Tom_T » Mon Jan 07, 2013 3:43 pm

athrone wrote:This "gross exaggeration" has already happened many times in the last century, including several in the currency we are talking about e.g. Greece (in progress), Iceland 2008, United States 1968, United States 1934.

I'm not sure what you are referring to about U.S. 1934 and 1968, apart from our policies re: gold.
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Re: Coming Bond Market Crash

Postby Munir » Mon Jan 07, 2013 3:52 pm

Call_Me_Op wrote:
reggiesimpson wrote:I buy bonds because they are not stocks (the fear and greed debate). I buy it with the intention of keeping it to maturity and collecting the interest along the way. I dont concern myself with the fluctuation in price (interest rates) because i know going in that its going to fluctuate. I came to terms with that years ago. I have always gotten my "$1000" back so thats resolved thank you. The primary question one may ask themselves is to individually ladder the bonds yourself or buy a fund and let them do it? IMHO.


What you say is basically true if you are talking about treasuries. But mutual funds that invest in bonds other than treasuries have a type of risk not seen when individual issues are used. This risk goes by at least few names, two being "sell-off risk" and "redemption risk."


I don't understand. Don't investors also sell and redeem treasuries in the same fashion as they do corporates?
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Re: Coming Bond Market Crash

Postby athrone » Mon Jan 07, 2013 4:04 pm

Tom_T wrote:
athrone wrote:This "gross exaggeration" has already happened many times in the last century, including several in the currency we are talking about e.g. Greece (in progress), Iceland 2008, United States 1968, United States 1934.

I'm not sure what you are referring to about U.S. 1934 and 1968, apart from our policies re: gold.


At the time, the dollar and Gold were interchangeable, so if you want to devalue the dollar that shows up as a change in the oz/$ ratio. Even today that is true, except it is a freely floating price. If you woke up tomorrow and Gold was $3400/oz or EUR/USD was 2.62 wouldn't you consider that a devaluation of the U.S. Dollar (ala 10:1 issuing New Dollars in my example above)?

Looking at the nominal performance of bond price is misleading, if you are only talking nominal yes how can you have a bond crisis? Unfortunately nominal doesn't matter, only real, and when you look at real performance there is already a historical precedent even in our own currency.
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Re: Coming Bond Market Crash

Postby tfb » Mon Jan 07, 2013 4:30 pm

bradrh wrote:If I take this exercise a little further, out to 6 years, with reinvestment of interest, at 5 years the value has almost recovered, and at 6 the return is positive.

Mere recovery or positive is the wrong benchmark. During these 5 or 6 years, CDs other investors bought at the same time are earning interest with no principal loss.
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Re: Coming Bond Market Crash

Postby bikenfool » Mon Jan 07, 2013 4:37 pm

tfb wrote:
bradrh wrote:If I take this exercise a little further, out to 6 years, with reinvestment of interest, at 5 years the value has almost recovered, and at 6 the return is positive.

Mere recovery or positive is the wrong benchmark. During these 5 or 6 years, CDs other investors bought at the same time are earning interest with no principal loss.

The same could be said about buying bonds, held to maturity. Is the conclusion that during a rising rate environment a bond ladder is better than a bond fund?
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Re: Coming Bond Market Crash

Postby Nicho_1978 » Mon Jan 07, 2013 4:40 pm

athrone wrote:
Nicho_1978 wrote:Why muddy the waters with gross exaggeration like that. Everyone knows those scenarios are unlikely so why even post that? Keep it realistic so people like me who are on here genuinely seeking advice can make the best decision.


This "gross exaggeration" has already happened many times in the last century, including several in the currency we are talking about e.g. Greece (in progress), Iceland 2008, United States 1968, United States 1934.

As far as "Keeping it realistic"

2011 CPI Inflation: 3.16%
Current 10 Year Treasury Yield 1.93%


IMHO, posters issuing aggressive verbiage towards others without any backdrop of fact/substance should be subject to bans.


Who are these aggressive posters that you think should be ban ? Also given that you think we are on the verge of 1934 style crash in the bond market whats your recommendations?
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Re: Coming Bond Market Crash

Postby Rodc » Mon Jan 07, 2013 6:13 pm

bradrh wrote:
midareff wrote:There is an exercsie that is pretty easy to do to determine the effects...... granted this is rough but it should be in the ball park. Total Bond Market currently has an SEC of 1.49% and a duration of 5.2 years. We don't have to repeat the last rising interest rise scenario when the FED increased rates at 17 consecutive meetings a few years ago .. starting from a much more favorable 4%, but let's start with a 3/4 % per year rise for 4 years with 3% inflation (a lowball for the rate rise). The first year TBM has an SEC of 2.24 % to offset a 3.9 % price drop and has a loss of (pre-inflation) 1.66%. Second year the SEC has risen to 2.99 % to offset a 3.9 % price drop and the fund has lost another .91 %. Third year the SEC has risen to 3.74 % to offset another 3.9 % price drop .... fund losses another .16 %. Year four, SEC becomes 4.49 % to offset the 3.9 % price drop... fund is up .59 % for the year or a four year total of -2.14 %. Unfortunately that goes with a four year inflation of (conservatively) 12 % . You have lost about 14 % in purchasing power.

While this is all speculative it does put a flashlight on the relationship between SEC and duration.

If I take this exercise a little further, out to 6 years, with reinvestment of interest, at 5 years the value has almost recovered, and at 6 the return is positive.
Code: Select all
   
    Balance  Return
    0.9834   -1.6600
    0.9745   -0.8949
    0.9729   -0.1559
    0.9786    0.5740
    0.9917    1.3114
    1.0125    2.0727

A smaller rate increase is absorbed almost right away, a larger one could take a long time. I'm sure this is obvious to the smart guys in the room, but it was informative to me.


This is an interesting exercise but if I understand correctly you have only recovered in nominal dollars, is that correct?

Now what happens if interest rates rise say 3/4% a year for 12 years. That does not get us to a historical record or anything. What if inflation goes up somewhat but also not to historical record levels, say 4% or 5% a year. That is more what I would be concerned with and would I think be more benign than the 1950-1980 type scenario.

I'm not saying this is highly likely, but if I wanted to look at what a reasonably bad situation could look like I'd look at such examples.
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Re: Coming Bond Market Crash

Postby tfb » Mon Jan 07, 2013 6:19 pm

bradrh wrote:
tfb wrote:
bradrh wrote:If I take this exercise a little further, out to 6 years, with reinvestment of interest, at 5 years the value has almost recovered, and at 6 the return is positive.

Mere recovery or positive is the wrong benchmark. During these 5 or 6 years, CDs other investors bought at the same time are earning interest with no principal loss.

The same could be said about buying bonds, held to maturity. Is the conclusion that during a rising rate environment a bond ladder is better than a bond fund?

Not a ladder. A single bond/CD that matures in 5 or 6 years, to be reinvested at maturity.
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Re: Coming Bond Market Crash

Postby midareff » Mon Jan 07, 2013 6:52 pm

bradrh wrote:
midareff wrote:There is an exercsie that is pretty easy to do to determine the effects...... granted this is rough but it should be in the ball park. Total Bond Market currently has an SEC of 1.49% and a duration of 5.2 years. We don't have to repeat the last rising interest rise scenario when the FED increased rates at 17 consecutive meetings a few years ago .. starting from a much more favorable 4%, but let's start with a 3/4 % per year rise for 4 years with 3% inflation (a lowball for the rate rise). The first year TBM has an SEC of 2.24 % to offset a 3.9 % price drop and has a loss of (pre-inflation) 1.66%. Second year the SEC has risen to 2.99 % to offset a 3.9 % price drop and the fund has lost another .91 %. Third year the SEC has risen to 3.74 % to offset another 3.9 % price drop .... fund losses another .16 %. Year four, SEC becomes 4.49 % to offset the 3.9 % price drop... fund is up .59 % for the year or a four year total of -2.14 %. Unfortunately that goes with a four year inflation of (conservatively) 12 % . You have lost about 14 % in purchasing power.

While this is all speculative it does put a flashlight on the relationship between SEC and duration.

If I take this exercise a little further, out to 6 years, with reinvestment of interest, at 5 years the value has almost recovered, and at 6 the return is positive.
Code: Select all
   
    Balance  Return
    0.9834   -1.6600
    0.9745   -0.8949
    0.9729   -0.1559
    0.9786    0.5740
    0.9917    1.3114
    1.0125    2.0727

A smaller rate increase is absorbed almost right away, a larger one could take a long time. I'm sure this is obvious to the smart guys in the room, but it was informative to me.



Not exactly if you continue to factor inflation. Year 5, 5.24% SEC, 3.9% price drop, 3% inflation = 1.66% additional real loss. Year 6 year, would produce an additional .91% loss. This produces (roughly) a 16.5 % reduction in purchasing power for a 6 year investment. ..... Frankly, that's more stay the course than I want to warm up to. As far as the inflation rate.. I used 3 % just to be conservative. Four, five or six years dwn the road in a rising interest rate environment I would expect inflation to be way more than 3 % which would of course make the end product even less welcome.
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Re: Coming Bond Market Crash

Postby Call_Me_Op » Mon Jan 07, 2013 8:07 pm

Munir wrote:
Call_Me_Op wrote:
reggiesimpson wrote:I buy bonds because they are not stocks (the fear and greed debate). I buy it with the intention of keeping it to maturity and collecting the interest along the way. I dont concern myself with the fluctuation in price (interest rates) because i know going in that its going to fluctuate. I came to terms with that years ago. I have always gotten my "$1000" back so thats resolved thank you. The primary question one may ask themselves is to individually ladder the bonds yourself or buy a fund and let them do it? IMHO.


What you say is basically true if you are talking about treasuries. But mutual funds that invest in bonds other than treasuries have a type of risk not seen when individual issues are used. This risk goes by at least few names, two being "sell-off risk" and "redemption risk."


I don't understand. Don't investors also sell and redeem treasuries in the same fashion as they do corporates?


Yes, they do, but that is unrelated to my point. I am referring to a risk specific to non-treasury mutual funds, a risk that does not exist if one holds a rolling ladder consisting of individual issues.
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Re: Coming Bond Market Crash

Postby Rodc » Mon Jan 07, 2013 8:55 pm

If one has a ladder and you hold each rung to maturity the value of your portfolio goes up and down just like holding a fund, you just don't care because this is hidden (unless you bother calculating market value of your portfolio).

What you lose with a ladder vs a fund is the ability to easily rebalance, which you also may not care about.

There is no magic to a bond ladder vs a fund.

But if you buy a 10 year right now at below inflation and you hold to maturity you still lose money.
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Re: Coming Bond Market Crash

Postby Karl » Mon Jan 07, 2013 10:00 pm

FinancialDave wrote:So the fact that the 10 year treasury yield is up close to 20% in just a few months, and the total return for the last 52 weeks is -2.93% doesn't bother anyone??

fd


That's manages to make the 0% return on a MM seem mighty damn good. :D

Today I sold some HY Corp and put it in ST Investment Grade. I decided HY simply wasn't worth the risk at a yield of only 4.51%. Makes me wish for the good old days when T-bills (the "riskless" asset) paid 5%. Today T-bills are the "riskless" way to lose 2% a year after the ravages of inflation. I wonder if finance texts will ever be updated, since loss of purchasing power is a very real risk.
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Re: Coming Bond Market Crash

Postby magician » Tue Jan 08, 2013 1:19 am

Karl wrote:I wonder if finance texts will ever be updated, since loss of purchasing power is a very real risk.

To which finance texts do you refer?

My copy of Fixed Income Analysis (for the Chartered Financial Analyst® Program), second ed., 2004 has three separate references to inflation (i.e., purchasing power) risk.
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Re: Coming Bond Market Crash

Postby Karl » Tue Jan 08, 2013 1:55 am

magician wrote:
Karl wrote:I wonder if finance texts will ever be updated, since loss of purchasing power is a very real risk.

To which finance texts do you refer?

My copy of Fixed Income Analysis (for the Chartered Financial Analyst® Program), second ed., 2004 has three separate references to inflation (i.e., purchasing power) risk.


I actually haven't seen a finance text since I graduated in 1995. They may well have changed the nonsense that filled those books a generation ago. At least I sure hope they changed it. In addition to the "riskless" asset that clearly has risk, they also had the silly concept that you could have a diversified stock portfolio with a dozen stocks.

Long ago the real world taught me that there is no risk-free asset. Everything has certain risks and you must decide what risks you're willing to take. Anything that appears riskless is merely an illusion.
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Re: Coming Bond Market Crash

Postby Tom_T » Tue Jan 08, 2013 8:21 am

athrone wrote:If you woke up tomorrow and Gold was $3400/oz or EUR/USD was 2.62 wouldn't you consider that a devaluation of the U.S. Dollar (ala 10:1 issuing New Dollars in my example above)?

Gold has, what, doubled over the past couple of years? Did my dollars lose half their value?
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Re: Coming Bond Market Crash

Postby Call_Me_Op » Tue Jan 08, 2013 8:52 am

Tom_T wrote:
athrone wrote:If you woke up tomorrow and Gold was $3400/oz or EUR/USD was 2.62 wouldn't you consider that a devaluation of the U.S. Dollar (ala 10:1 issuing New Dollars in my example above)?

Gold has, what, doubled over the past couple of years? Did my dollars lose half their value?


Agree with this sentiment. I get a kick out of those who say "gold is inflation." That may resemble the truth over a time-frame measured in centuries - but it hasn't been true in our lifetimes. Gold is a speculation. Buy it low and sell it higher and you can make a few bucks. The opposite is also true.
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Re: Coming Bond Market Crash

Postby livesoft » Tue Jan 08, 2013 9:03 am

patrick wrote:If your duration is long enough, you can lose quite a bit due to even a modest interest rate increase. To take an extreme example, consider what happened recently with Vanguard's Extended-Duration Treasury ETF (EDV), which has an average duration of about 25 years. From December 26, 2008 to April 5, 2010 this fund lost approximately 42% of its value (see http://finance.yahoo.com/q/hp?s=EDV&a=11&b=26&c=2008&d=03&e=5&f=2010&g=d&z=66&y=0).

This sort of loss should not really be expected from bond investments of more normal duration.

No, but it is expected from a bond fund that goes up 49% in the one month from Nov 13, 2008 to Dec 18, 2008!

The anomaly was the huge increase in that one month because of a certain crisis. The loss of ~42% was just the fund coming back from the stratosphere.

So EDV is an example of data mining and not an example of modest interest rate increase.
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Re: Coming Bond Market Crash

Postby timmy » Tue Jan 08, 2013 9:17 am

I too have been waiting for the crash. I've moved to short duration bonds (less than 3 years), etc. I wonder... maybe bonds won't crash. Maybe we are now at the starting phases of a long hangover. (Versus a "crash" which happens quickly.)

Part 1 (now) ~ Bond rates appear suppressed and no longer keep up with inflation. This could go on for who knows how long (look at Japan).

Part 2 (future) ~ Bond rates normalize (revert to mean). If this reversion to the mean happens slowly, most folks will hang on. If it happens quickly (over say 1 year), the predictions of a "crash" will come true. And we will mint a new generation of forecasters... who predicted the bond crash of 20##.

For me, I'll probably keep my bond durations short and look at increasing my stock holdings (dollar cost averaging my way to 50/50 stocks/bonds, and considering 60/40).
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Re: Coming Bond Market Crash

Postby Call_Me_Op » Tue Jan 08, 2013 9:40 am

Timmy,

Out of curiosity, what is your current stock:bond ratio?
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Re: Coming Bond Market Crash

Postby Doc » Tue Jan 08, 2013 11:52 am

livesoft wrote: The anomaly was the huge increase in that one month because of a certain crisis. The loss of ~42% was just the fund coming back from the stratosphere.


It seems like every time we get into these CD's/short/long duration threads the discussion devolves into how much our FI fund might lose if blah blah blah and if you wait long enough any loss will come back. Nisi's prior statement
In 1994, the press described events as a "bond massacre," and described 1993 as a "bond bubble"
and accompanying chart are a good illustration of that point. But livesoft hit on what I think is an equally important concept. The "stratosphere" that the fund was coming back from is just what was needed to be able to have extra dollars to buy equities during the stock market crash which was a heck of a lot bigger than any short term loss in corporate bonds or TIPS during the same time that long Treasuries were in the stratosphere. Equities should be the prime source of growth from one's portfolio and FI should be the primary source to reduce variance. These discussions should be less about duration and FI loss and more about how one should structure their FI portfolio to reduce portfolio variance not to reduce the risk of a loss or improve the gain of only the FI portion. TBM may be an excellent "one fund" solution over long time periods but breaking that TBM into its component parts greatly improves one's flexibility in time of crisis.
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Re: Coming Bond Market Crash

Postby tadamsmar » Tue Jan 08, 2013 1:09 pm

Nicho_1978 wrote:I’ve been hearing lots of talk lately about the coming bond market crash due to rising interest rates, especially in the last couple of days.


Where have you been? We have been hearing about it since 2010. Any year now...
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Re: Coming Bond Market Crash

Postby athrone » Tue Jan 08, 2013 1:19 pm

Tom_T wrote:
athrone wrote:If you woke up tomorrow and Gold was $3400/oz or EUR/USD was 2.62 wouldn't you consider that a devaluation of the U.S. Dollar (ala 10:1 issuing New Dollars in my example above)?

Gold has, what, doubled over the past couple of years? Did my dollars lose half their value?


The market dynamics surrounding that price rise are different than the market dynamics that I am suggesting in my hypothetical. So, for the question I actually posed, what would you answer be?
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Re: Coming Bond Market Crash

Postby nisiprius » Tue Jan 08, 2013 1:33 pm

Doc, what would you say to this:

There are two competing theories of how to use bonds in a portfolio.

Theory A investors use them as a low-volatility anchor, and a diluter of risk. Volatility is accepted only as a necessary evil in order to get the higher return. Theory A investors are content with Total Bond Market as an adequate one-size fits-all solution. Since we are counting on it as a low-volatility anchor, we are concerned about the possibility of a sharp crash, say >15%, in our holdings, but, beyond that, don't care much about the details. Low correlation is of interest only the very weak sense that they don't want their bonds to crash sharply at the same time as our stocks. Theory A investors are perfectly happy with the idea of substituting CDs for bonds if they can get the same return; the fact that volatility is lower is icing on the cake. (Zero volatility implies zero correlation, but there is no MPT benefit if there's zero volatility).

Theory B investors use them in accord with modern portfolio theory, taking positive advantage of the low correlation. They seek to use bonds to counteract risk, not just dilute it. Theory B investors prefer more volatility in their bond investments, because the optimum point on the efficient frontier comes at somewhat higher volatility than you get with something like Total Bond (I think that's correct but I haven't checked, I'm just handwaving here). They believe that they are getting a "rebalancing bonus" and, overall, enhanced risk/reward compared to what they'd get with a simple three-fund portfolio, and that the improvement is worth taking some trouble with, and paying attention to details of different behavior of different kinds of bonds, rather than just accepting the amorphous blob that forms the BarCap Aggregate index.

I follow theory A, you follow theory B. You're convinced that theory B is better, I'm convinced that theory A is good enough.

Sound about right?

Parenthetically, I keep trying quick searches but never quite finding what I need... I have the vague impression that the traditional 60/40 allocation actually comes directly out of Markowitz's original work... but that the "40" refers to long-term bonds. I think he was addressing pension managers, who traditionally would have been using long-term bonds to match long-term obligations.
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Re: Coming Bond Market Crash

Postby Rodc » Tue Jan 08, 2013 1:36 pm

athrone wrote:
Tom_T wrote:
athrone wrote:If you woke up tomorrow and Gold was $3400/oz or EUR/USD was 2.62 wouldn't you consider that a devaluation of the U.S. Dollar (ala 10:1 issuing New Dollars in my example above)?

Gold has, what, doubled over the past couple of years? Did my dollars lose half their value?


The market dynamics surrounding that price rise are different than the market dynamics that I am suggesting in my hypothetical. So, for the question I actually posed, what would you answer be?


I see no direct link between gold and dollars. That seems to have ceased long ago.

If we have complete collapse somehow of the dollar and/or our form of government (which I suppose most happen someday) and dollars and bonds become worthless or nearly so, sure all bets are off on any investment. Buy guns and ammo, own some farm land or hide out in the wilderness where you can hunt dinner, you know the drill... But short of that I don't see your hypothetical happening.
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Re: Coming Bond Market Crash

Postby timmy » Tue Jan 08, 2013 1:59 pm

Timmy,

Out of curiosity, what is your current stock:bond ratio?


Currently, 30% stocks

VT = 20%
VBR = 5%
VSS = 5%

Moving to

VT = 25%
VBR = 12.5%
VSS = 12.5%

Why am I at 30% and moving to 50%?

Due to job moves, we transitioned our funds from 401ks to rollover IRAs. We moved everything to money markets for the move. My investments prior to the move were not well thought out. I have since figured out the "plan". (You'll no doubt see an influence from this site.) Me being me, I couldn't stand the thought of just making the move, so I am dollar cost averaging over two or so years.

On the bond side, I agree with the sentiment of taking the risk on the equity side. Thus my bond portfolio.
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Re: Coming Bond Market Crash

Postby Tom_T » Tue Jan 08, 2013 2:06 pm

athrone wrote:
Tom_T wrote:
athrone wrote:If you woke up tomorrow and Gold was $3400/oz or EUR/USD was 2.62 wouldn't you consider that a devaluation of the U.S. Dollar (ala 10:1 issuing New Dollars in my example above)?

Gold has, what, doubled over the past couple of years? Did my dollars lose half their value?


The market dynamics surrounding that price rise are different than the market dynamics that I am suggesting in my hypothetical. So, for the question I actually posed, what would you answer be?

No, I wouldn't. I gave you an actual example of how gold doubled, yet the value of the dollar remained basically unchanged, but you're saying "oh, that doesn't count." So I'm not going to get into a debate. Gold is obviously your thing, so nothing anyone can say will sway you from your position. There is no sense talking about it further, so I won't.
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Re: Coming Bond Market Crash

Postby Call_Me_Op » Tue Jan 08, 2013 2:16 pm

Timmy,

Thanks for the info. I agree with the approach. I would DCA into this market.
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Re: Coming Bond Market Crash

Postby tetractys » Tue Jan 08, 2013 2:27 pm

For about the last 15 years, the time I've been in the markets, the CPI-U increase has been pretty steady at about 2.4%. And I think it's fair to say that the Fed has technical capabilities now that were unavailable before that aforementioned period, more or less, and that those capabilities are being utilized judiciously and beneficially. If that's true, that's one reason not to get overly bent out of shape about future bond prices.

And so, I've just bought TIPS, and some stocks too per my IPS, and still feeling steady at humankind's (our) place in the universe. -- Tet
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Re: Coming Bond Market Crash

Postby athrone » Tue Jan 08, 2013 3:56 pm

If you don't understand the Gold market, then comment on the EUR:USD part of my question. If you wake up tomorrow and EUR:USD is 2.62 would you consider that a devaluation of the U.S. Dollar?
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Re: Coming Bond Market Crash

Postby athrone » Tue Jan 08, 2013 4:01 pm

Tom_T wrote:I gave you an actual example of how gold doubled, yet the value of the dollar remained basically unchanged, but you're saying "oh, that doesn't count."


So your thesis is that the price of Gold depends solely on, and has a perfect correlation to, the value of the dollar?

If you read my comments carefully you will discover that my thesis was only that "an overnight doubling in Gold [in USD] would likely indicate an instance of dollar devaluation"

Which assertion seems more reasonable?
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Re: Coming Bond Market Crash

Postby pkcrafter » Tue Jan 08, 2013 4:09 pm

I have a hard time understanding the fear of bonds generated by future inflation. This fear can easily be seen and calculated, which should reduce fear, not increase it. Are those investors jumping through hoops to avoid bond fear maintaining they can hold stocks in a dramatic panic market crash? :confused The bond/inflation problem is standing right in front of us, and that makes it much less worrisome than stock risk, which does not announce it's gut-punching 50% loss visit. So, let's not forget which asset class is actually riskier. How much bond loss are we talking about? 5%, 10%, 20%? Most younger investors have much more in stock than bonds, so the portfolio hit isn't going to crush them. As for losing purchasing power, it's stocks to the rescue.


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Re: Coming Bond Market Crash

Postby Rodc » Tue Jan 08, 2013 5:25 pm

pkcrafter wrote:I have a hard time understanding the fear of bonds generated by future inflation. This fear can easily be seen and calculated, which should reduce fear, not increase it. Are those investors jumping through hoops to avoid bond fear maintaining they can hold stocks in a dramatic panic market crash? :confused The bond/inflation problem is standing right in front of us, and that makes it much less worrisome than stock risk, which does not announce it's gut-punching 50% loss visit. So, let's not forget which asset class is actually riskier. How much bond loss are we talking about? 5%, 10%, 20%? Most younger investors have much more in stock than bonds, so the portfolio hit isn't going to crush them. As for losing purchasing power, it's stocks to the rescue.


Image

Source (ignore the pitch for TRP products)
http://individual.troweprice.com/retail/pages/retail/applications/investorMag/2012/december/feature-story/index-page2.jsp


I have no great fear of bonds and I am making no change to my allocations. I can also tell you that my elderly mother, with (1) a much higher allocation to bonds and (2) a need for her portfolio to generate real-time income today and over the next few years, is finding the current bond situation to be, shall we say, unpleasant (though she too has no great fear of bonds). Current very low or even negative real yields hurt retirees. If rising inflation and/or rising yields come the fact that things will work out half dozen or so years in the future as calculated in some posts above will be of little help to these folks.
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Re: Coming Bond Market Crash

Postby magician » Tue Jan 08, 2013 5:35 pm

athrone wrote:. . . "an overnight doubling in Gold [in USD] would likely indicate an instance of dollar devaluation"

Devaluation with respect to what?

(If it's only a devaluation wrt gold, so what?)
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Re: Coming Bond Market Crash

Postby grap0013 » Tue Jan 08, 2013 5:53 pm

Rodc wrote:The bottom line is some people are overly bearish on bonds and over estimate their risk. Others are overly bullish on bonds and underestimate their risks. I'm, trying to hit a middle ground. I don't think bonds are terribly risky, but the fact is that bonds have at times been pretty bad, and that this reflected in the historical record.


+1

There is definitely a "tilt" or "bias" favoring bonds on this forum. I don't know if it's the large preponderance of retirees on here or that I signed up as a BG post 2008, but it's definitely here. I think there's a 30:1 post ratio of bonds "save your bacon" and are great "dry powder" vs. posts of the risks that they can have negative or zero real returns for extended periods of time. Rod, you mentioned bond returns from 1950-1980 and if we even go further back from 1930-1980, bonds had 50 years of zero real returns. That's terrible and it hardly ever gets mentioned.
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Re: Coming Bond Market Crash

Postby athrone » Tue Jan 08, 2013 6:24 pm

magician wrote:
athrone wrote:. . . "an overnight doubling in Gold [in USD] would likely indicate an instance of dollar devaluation"

Devaluation with respect to what?
(If it's only a devaluation wrt gold, so what?)


Are you suggesting an overnight double in Gold price would be an isolated event? If so, what evidence do you have that currency markets (much less the $10 Trillion Gold market) operate in a vacuum?
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Re: Coming Bond Market Crash

Postby magician » Tue Jan 08, 2013 6:34 pm

athrone wrote:
magician wrote:
athrone wrote:. . . "an overnight doubling in Gold [in USD] would likely indicate an instance of dollar devaluation"

Devaluation with respect to what?
(If it's only a devaluation wrt gold, so what?)

Are you suggesting an overnight double in Gold price would be an isolated event? If so, what evidence do you have that currency markets (much less the $10 Trillion Gold market) operate in a vacuum?

It seems to me that you're asking the question of the wrong person: you're the one who posited "an overnight doubling in Gold [in USD]", seemingly leaving USD in isolation.

So, are you suggesting an overnight double in gold price (in USD) would be an isolated event? That there would not be a similar doubling in the price of gold in euros, pounds, francs, yen, rubles, bhat, and so on?

If so, what evidence . . . .

If not, then return to my original question: devaluation (of USD) with respect to what?
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Re: Coming Bond Market Crash

Postby athrone » Tue Jan 08, 2013 6:52 pm

magician wrote:If not, then return to my original question: devaluation (of USD) with respect to what?


Everything outside of the USD... such as Gold or Euros in my example. How else do you measure a devaluation if not with respect to all other things? If the price of Gold in all currencies doubles overnight, then all currencies are depreciating wrt to gold. If Euros/Gold/Oil/All Other Currencies/Etc. double overnight wrt to the USD, then only the USD is depreciating.

I don't understand the point you are making. It seems to be that you don't care about Gold or Euros because you don't think those things affect you.
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Re: Coming Bond Market Crash

Postby STC » Tue Jan 08, 2013 6:58 pm

athrone wrote:
magician wrote:If not, then return to my original question: devaluation (of USD) with respect to what?


Everything outside of the USD... such as Gold or Euros in my example. How else do you measure a devaluation if not with respect to all other things? If the price of Gold in all currencies doubles overnight, then all currencies are depreciating wrt to gold. If Euros/Gold/Oil/All Other Currencies/Etc. double overnight wrt to the USD, then only the USD is depreciating.

I don't understand the point you are making. It seems to be that you don't care about Gold or Euros because you don't think those things affect you.


Any expectations for Gold to perform at a premium to inflation going forward ignores all of gold history in favor of a very recent parabolic spike.

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Re: Coming Bond Market Crash

Postby athrone » Tue Jan 08, 2013 6:58 pm

The posters in this thread may not think things such as the London PM Fix or EUR:USD ratio affect them, but... what if they do? As far as I can tell, the OP's question was:

"Granted pass performance does not indicate future performance, am I missing something here or are there really more dangers ahead in the bond market than what history suggest?"


To which, I am replying: yes, there are things that the OP (and other poster's) are missing here. And yes, there really are more dangers ahead in the US bond market than what [the OP's reading] of history would suggest.
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