I just don't get this rise in interest rates

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dbc47
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I just don't get this rise in interest rates

Post by dbc47 »

I've been reading this forum for a few years now and whenever someone brings up the "Bond Bubble, etc. there seems to be very little cause for alarms, etc. There have been a few out there I suppose, but don't recall too many at the moment. I do remember seeing charts displayed of the Total Bond Market and how what may happen in the future will just be a bump in the road. What I don't understand is that the Fed hasn't raised rates have they? What am I missing? All of a sudden out of left field interest rates start to rise! Everyone seemed to always watch the Fed for a clue on where rates are going to go, and we're supposed to stay the course, etc. But I for one, and it appears others as well, have gotten blasted with rising rates coming from somewhere nobody counted on?
Now we're supposed to stay the course because as bond prices fall, yields are going up! Hooray ,we should be happy, but it is hard to be happy when bond NAVs are dropping almost daily. Fat lot of good rising yields do for us as we watch our principal disappearing.
OK, now I've vented. :annoyed
Jfet
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Re: I just don't get this rise in interest rates

Post by Jfet »

The really scary thing is that rates can rise like this for no reason...what happens when there is an obvious reason?

10% drop in long term bonds in a couple of months is rather shocking...especially when they pay just a few %.

Synthetic bonds via very deep in the money covered calls on a big index might have been a better way to play.
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Re: I just don't get this rise in interest rates

Post by thx1138 »

The Fed only controls short term interest rates. Longer term rates are the market estimate of inflation and growth - not under Fed control. With QE the Fed has been influencing longer term rates by purchasing bonds but that is not direct control. Interest rates changed because the market is reacting to what they think the Fed and the economy will do in the future. Opinions and sentiment can change quickly, hence rates can too.
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Re: I just don't get this rise in interest rates

Post by neurosphere »

dbc47 wrote: Now we're supposed to stay the course because as bond prices fall, yields are going up! Hooray ,we should be happy, but it is hard to be happy when bond NAVs are dropping almost daily. Fat lot of good rising yields do for us as we watch our principal disappearing.
OK, now I've vented. :annoyed
When do you need to sell you bonds? Did you buy bond funds as a temporary holding place for funds need for a purchase (can, home, college, etc) which is coming up soon, and now you have lost the principal you were counting on?
If you have to ask "Is a Target Date fund right for me?", the answer is "Yes" (even in taxable accounts).
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Re: I just don't get this rise in interest rates

Post by Jim180 »

What makes it different this time is QE. Typically the bond market reacts to economic growth and to the Fed raising short-term rates, but this time the bond market must first make an adjustment for the end of QE. That's why rates must go up before the Fed actually does anything.
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baw703916
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Re: I just don't get this rise in interest rates

Post by baw703916 »

Interest rates are rising because *everybody* thinks they are going to rise.

There's a lot of self-fulfilling prophesy in all this.
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Re: I just don't get this rise in interest rates

Post by z3r0c00l »

Bonds may not be for you then. A bad month in intermediate bonds is a 5% drop. A very bad month, I would say. A bad day in stocks is a 5% drop.

An increase in interest rates hurts now, the way investing money in a company that you own hurts. Or the way getting a new engine for your boat hurts. But you gain significantly from this change moving forward. Bond funds are better today than they were last month, based solely on the information we have on hand. This makes no prediction about further NAV loses, but simply uses the best predictor of future bond fund performance, which is the yield.
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ogd
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Re: I just don't get this rise in interest rates

Post by ogd »

The market is anticipating higher interest rates and the end of QE (whichis a substitute for negative interest rates). As always, it looks ahead rather than missing the obvious.
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Re: I just don't get this rise in interest rates

Post by Grt2bOutdoors »

My prediction is this phase will pass. Bond yields are going to come down when they see the economy isn't as hot as they want to believe.
Of course, the front page of today's WSJ had an article on jumbo mortgages being priced lower than conventional 30 yr fixed rate mortgages - something they have never seen in 30 years. The market can remain irrational longer than we can remain solvent. I plan on TLHing even though right now my total return is only slightly negative. If you can hold for the duration, you should be able to ride this out.
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Spades
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Re: I just don't get this rise in interest rates

Post by Spades »

I think our best guess is because everyone thinks that rates will go up when QE stops. So rates are going up because people are demanding lower prices on bonds now because they say they'll just wait till QE stops.

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Elbowman
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Re: I just don't get this rise in interest rates

Post by Elbowman »

dbc47 wrote:but it is hard to be happy when bond NAVs are dropping almost daily.
If you are actually checking the NAV price of your funds on a daily basis, you should probably stop. It doesn't really do any good, can make people emotional (surprise!), and emotional people tend to make bad financial decisions.
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Re: I just don't get this rise in interest rates

Post by nisiprius »

My holdings in Total Bond have been gaining NAV, losing NAV, gaining NAV, losing NAV etc. forever.

Image

When the fund started out, it was $10 a share. If you want to call 2010-2013 a bubble, I won't argue, but I don't think it's right to use the same word for an rise of 10% above its starting point as we used about the three fold rise in the NASDAQ around the year 2000. I mean, one of them is thirty times as big as the other.

The price per share of Total Bond now down to $10.50 a share. How much further is it going to go? Your guess is as good as mine, but I'm not going to lose sleep over it. I'm going to describe this chart as "reasonably stable, with fluctuations of, oh, I dunno, ±5%, ±10%."

Vanguard says this fund "may be appropriate for investors with medium-term investment horizons (four to ten years)." Well, if we assume that we are not going to give away all the bond interest--paid out as fund dividends, this is what the total return on this fund has been doing:

Image

Vanguard suggests we should be thinking in terms of four to ten years. The red arrow shows four years. During the last four years, that fund has earned quite a bit, and the recent downturn so far hasn't given back much of what's been gained. Naturally it would be nice not to give any of it back, and successful market timers, OR people who took Kevin M's suggestion and shifted to bank CDs, may quite possibly do better than I am doing just staying the course, but staying the course doesn't look that terrible.

On a large-scale macro picture, during the period of rising rates that chart may well show fluctuations above and below a curve that is sort of leaning over and not growing as fast as it did before--you know, just like the one you see from 2004 to 2007 when the Fed raised their (overnight) rates from 1% to 5%.

What I'm saying is, yes, bond funds fluctuate. But people are suddenly seeing a fluctuation that so far isn't anything bigger from what's happened any number of times before, but because they are alarmed they are suddenly looking at short-term behavior.

If your investment horizon is much shorter than "four to ten years," you probably shouldn't be using an intermediate-term bond fund.

If your investment horizon IS "four to ten years," should shouldn't be obsessing over one-month, six-month, one-year fluctuations in NAV.
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Re: I just don't get this rise in interest rates

Post by MnD »

Rates were ridiculously low. Now they are just low. If history is any guide they could easily rise another 200 basis points and still be well within "normal" given the latest inflation read of 2%, which also happens to be the fed target. New car sales are up 12-18%. Homes are appreciating at 12% per year and we'll see 3% 10-year Treasuries tomorrow if the jobs report doesn't suck.

Did anyone really think intermediate term bonds were going to stay at 1.5% until the fed gave Mr. Market permission to start upping rates? :mrgreen:
Because it's different this time? Reversion to the mean here we come. 5% 10-year Treasuries, 6% mortgages - that sort of stuff. :beer
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Re: I just don't get this rise in interest rates

Post by roymeo »

With the financial media churning out things like this http://www.marketwatch.com/story/5-ways ... d=nwhfunds are you really confused as to why people are 'jumping the gun'?
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Jfet
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Re: I just don't get this rise in interest rates

Post by Jfet »

So what do rates need to go to on the 10 year for us to see another 10% drop in bond prices?
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Re: I just don't get this rise in interest rates

Post by MnD »

Jfet wrote:So what do rates need to go to on the 10 year for us to see another 10% drop in bond prices?
4% if you are talking about a 10% drop in 10-year bonds.
5% if you are asking about a 10% drop in 5-year bonds.
The total return drop being cushioned by whatever interest is distributed during the period of rise.
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Re: I just don't get this rise in interest rates

Post by Sbashore »

I'm not aware that the Fed can set rates, other than maybe the discount rate, and I'm not sure about that. The Fed can "influence" rates to be sure. So these recent moves in the bond market are no surprise to me. Perceptions in the market, reacting to news, are what I think of when I see these prices moving around.
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Clearly_Irrational
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Re: I just don't get this rise in interest rates

Post by Clearly_Irrational »

QE was an attempt to create a synthetic negative federal funds rate due to the fact that they were replacing treasuries and MBS with bank reserves. The market it basically just front-running the upcoming "tightening" that will occur when they start to taper off those purchases. Here's a decent graph showing the relationship:

Image
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Clearly_Irrational
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Re: I just don't get this rise in interest rates

Post by Clearly_Irrational »

Sbashore wrote:I'm not aware that the Fed can set rates, other than maybe the discount rate, and I'm not sure about that. The Fed can "influence" rates to be sure. So these recent moves in the bond market are no surprise to me. Perceptions in the market, reacting to news, are what I think of when I see these prices moving around.
They could if they wished, but they normally don't. For example, if they came out tomorrow and said "We've decided that the 30 year treasury rate will be 1% henceforth, we'll buy any necessary quantity of 30 year treasury bonds until it reaches that rate.", then bam they've set the long rate and there isn't much the "market" could do about it.
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Re: I just don't get this rise in interest rates

Post by garlandwhizzer »

It is true that the fed has not raised rates--far from it, they're still buying massive amounts of bonds every month trying to drive rates down. Investors as a whole and particularly professionally managed money do not however wait for something to happen before reacting to it. Both the stock market and the bond market are forward looking, trading today on what they think will happen in nest 6 -12 months as a general rule. These markets anticipate and act, buying the rumor before anything concrete happens and often selling the news when something does happen. Goldman Sachs and other financial institutions, the people who make big bets and often may set market direction, don't wait until the Fed raises rates to make portfolio changes. They have proactively dumped intermediate and long term bonds because they, like many individual investors, anticipate that those bonds will lose more in principal value over the next year or so than the gains from their interest payments in that time period. Professionally managed money is on a short leash, when quarterly statements show enough losses, many investors flee. They can't afford to wait it out for 5 or 6 years to recoup losses.

Bull markets that run for decades, like the bond bull run that has gone on for 30+ years up until 6 months ago, tend to set up very overvalued situations that often reduce forward returns for a long time going forward. It happened with the unwinding of the tech bubble which started with stratospheric PEs that have come down during the intervening 13 years but are still a bit elevated. The unwinding of bond bubbles is not as severe in the short run as the case for stock bubbles (losing 50% in 12 -18 months), but the process has just started and is likely to go on for quite some time as interest rates normalize. If inflation doesn't heat up as a persistent long term trend, the result in likely to be zero real return over the next decade in the bond market, regardless of whether you use TIPS, or long, intermediate or short term high quality bonds. There is no good place to hide, only less bad places. If inflation heats up in a persistent fashion, the outcome will be a lot worse. These facts have been obvious to many for quite some time and that is, I suspect, why interest rates have risen so fast without either increasing inflation or Fed policy changes.

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ogd
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Re: I just don't get this rise in interest rates

Post by ogd »

The kind of foresight that some of y'all are claiming would make you BILLIONS as active bond managers.

To me it looks no different than an anti-indexer showing up triumphantly after the Apple crash and telling us that it was silly to hold 4% of our stock holdings in that obviously overvalued stock. The facts are: there is a market consensus, it's expressed in the prices and it's very very hard to do any better.
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Re: I just don't get this rise in interest rates

Post by nisiprius »

garlandwhizzer wrote:Bull markets that run for decades, like the bond bull run that has gone on for 30+ years up until 6 months ago, tend to set up very overvalued situations that often reduce forward returns for a long time going forward. It happened with the unwinding of the tech bubble which started with stratospheric PEs that have come down during the intervening 13 years but are still a bit elevated. The unwinding of bond bubbles is not as severe in the short run as the case for stock bubbles (losing 50% in 12 -18 months), but the process has just started and is likely to go on for quite some time as interest rates normalize.....
How overvalued can a bond possibly get? It is not a stock. It is going to pay out $1,000 when it matures. That's all. Just $1,000. It doesn't matter whether the company achieves a powder that turns water into gasoline, a pill that extends life to 300 years, or a version of Windows that doesn't suck, that bond is only going to pay out $1,000. Not $100,000, not $10,000, not $2,000.

You get your money back at the end, every penny of it! WOW! Really, how excited can anyone possibly get about that?

Plot the price of Vanguard Total Bond on the same scale as QQQ (NASDAQ 100 index ETF). Now look at the blue line and tell me where the "bubble" is.

Image
Last edited by nisiprius on Thu Sep 05, 2013 6:49 pm, edited 3 times in total.
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Re: I just don't get this rise in interest rates

Post by roymeo »

garlandwhizzer wrote: Bull markets that run for decades, like the bond bull run that has gone on for 30+ years up until 6 months ago, tend to set up very overvalued situations that often reduce forward returns for a long time going forward. It happened with the unwinding of the tech bubble which started with stratospheric PEs that have come down during the intervening 13 years but are still a bit elevated. The unwinding of bond bubbles is not as severe in the short run as the case for stock bubbles (losing 50% in 12 -18 months), but the process has just started and is likely to go on for quite some time as interest rates normalize. If inflation doesn't heat up as a persistent long term trend, the result in likely to be zero real return over the next decade in the bond market, regardless of whether you use TIPS, or long, intermediate or short term high quality bonds. There is no good place to hide, only less bad places. If inflation heats up in a persistent fashion, the outcome will be a lot worse. These facts have been obvious to many for quite some time and that is, I suspect, why interest rates have risen so fast without either increasing inflation or Fed policy changes.

Garland Whizzer
From today's email from Vanguard a link: https://personal.vanguard.com/us/insigh ... s-08142013
..."there is not a commonly accepted definition for a bear market in bonds."..."There is a widely accepted, broadly used definition for a bear market in stocks, and that's a decline of at least 20% from peak to trough in stocks."

"Now, if you tried to use that definition and apply it to bonds, we've never had a bear market in bonds. In fact, the worst 12-month return we've ever realized in the bond market was back in September of 1974, when bonds declined 13.9%. So we've never had a decline of the same magnitude as we've had in stocks, and I think that's one of the key differences between stocks and bonds."

roymeo
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Re: I just don't get this rise in interest rates

Post by garlandwhizzer »

nisi wrote:
Come on, Garland, how overvalued can a bond possibly get? It is not a stock. It is going to pay out $1,000 when it matures.
True. If you bought a 10 year Treasury not long ago when it was yielding 1.6% and you hold it for 10 years you get the $1000 back. That in my book is called 10 years of dead money. It is very likely that inflation during that 10 year span will be higher than 1.6% so you actually lose real purchasing power over the a full decade. If serious inflation intervenes in that decade you suffer a significant loss of purchasing power. I personally don't find that risk/reward tradeoff very comforting or appealing. I suspect that others who have reduced or are reducing bond holdings agree with me. I still hold bonds and cash in my portfolio, but only enough to allow me to sleep at night when stocks crash.

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Re: I just don't get this rise in interest rates

Post by BigFoot48 »

My portfolio is 55% bond funds and I welcome the increase in interest rates. The higher the better and my estate can deal with the NAV in 20 years.
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Re: I just don't get this rise in interest rates

Post by neurosphere »

nisiprius wrote: It doesn't matter whether the company achieves a powder that turns water into gasoline, a pill that extends life to 300 years, or a version of Windows that doesn't suck,
Ok, I'm a big fan of windows, but the underlined part was the highlight of my day. So funny. Thanks nisi for that laugh. Here's to you: :beer
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Re: I just don't get this rise in interest rates

Post by Jfet »

The argument that you can hold a bond until it matures and get your money back doesn't really work when you are losing 1% or possibly much more a year to inflation.

You can hold any stock index for a long enough time to get your money back also...especially if you don't care about inflation.

Can you give me a 50 year time period where a stock index was lower at the end than it was at the start of the period?
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Re: I just don't get this rise in interest rates

Post by Clearly_Irrational »

roymeo wrote: From today's email from Vanguard a link: https://personal.vanguard.com/us/insigh ... s-08142013
..."there is not a commonly accepted definition for a bear market in bonds."..."There is a widely accepted, broadly used definition for a bear market in stocks, and that's a decline of at least 20% from peak to trough in stocks."

"Now, if you tried to use that definition and apply it to bonds, we've never had a bear market in bonds. In fact, the worst 12-month return we've ever realized in the bond market was back in September of 1974, when bonds declined 13.9%. So we've never had a decline of the same magnitude as we've had in stocks, and I think that's one of the key differences between stocks and bonds."

roymeo
Well, since total stock market is approximately 3.4 times more volatile than total bond market (Simba data, comparing std deviations of vtsmx and vbmfx) if you're going to use the stock market definition then a bond bear market would be a decline of say 6% (to use a nice number). I'm pretty sure we've had a few of those, though it will depend on which data set you use and whether you use monthly or annual data.
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Re: I just don't get this rise in interest rates

Post by ogd »

Jfet wrote:The argument that you can hold a bond until it matures and get your money back doesn't really work when you are losing 1% or possibly much more a year to inflation.
It sort of works when there is no alternative that will be there for you if the economy crashes and you lose your job. You must always compare with alternatives. 6 months ago in most 401ks there wasn't anything that fulfilled those requirements *and* beat inflation. Now at least we have long TIPS.
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Re: I just don't get this rise in interest rates

Post by Clearly_Irrational »

Jfet wrote:Can you give me a 50 year time period where a stock index was lower at the end than it was at the start of the period?
That's probably not a very good comparison since there are only two data points so far.
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Re: I just don't get this rise in interest rates

Post by Clearly_Irrational »

neurosphere wrote:
nisiprius wrote: It doesn't matter whether the company achieves a powder that turns water into gasoline, a pill that extends life to 300 years, or a version of Windows that doesn't suck,
Ok, I'm a big fan of windows, but the underlined part was the highlight of my day. So funny. Thanks nisi for that laugh. Here's to you: :beer
Call me a heretic but Windows 7 is actually pretty decent. For my use case I actually prefer it over Linux or Mac on my home machine.
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Re: I just don't get this rise in interest rates

Post by Jfet »

Clearly_Irrational wrote:
Jfet wrote:Can you give me a 50 year time period where a stock index was lower at the end than it was at the start of the period?
That's probably not a very good comparison since there are only two data points so far.
Well, comparing a 30 year bond to holding a stock index for 30 years then. How many times have investors not been made whole on the original investment if the index was held for 30 years?
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Re: I just don't get this rise in interest rates

Post by nisiprius »

Jfet wrote:The argument that you can hold a bond until it matures and get your money back doesn't really work when you are losing 1% or possibly much more a year to inflation.
My point was not that bonds are safe in a sense, my point is that they can't be maniacally, insanely overvalued. How can a bubble, as we know it for other asset classes, possibly develop? How far is anyone going to bid up the price of a bond when the best that happen sit that you get your money back, after, as you say, losing something to inflation every year?

What's the best "storyline" anyone can possibly spin about a bond?
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Re: I just don't get this rise in interest rates

Post by Jfet »

nisiprius wrote:
Jfet wrote:The argument that you can hold a bond until it matures and get your money back doesn't really work when you are losing 1% or possibly much more a year to inflation.
My point was not that bonds are safe, my point is that they can't be grossly overvalued. How can a bubble, as we know it for other asset classes, possibly develop? How far is anyone going to bid up the price of a bond when the best that happen sit that you get your money back, after, as you say, losing something to inflation every year?
Ok, I will agree with you there Nisiprius. So we are saying a bond has limited upside and somewhat limited downside if you hold to maturity. I am trying to figure if a stock index then has unlimited upside but only limited downside if it is held to "maturity", with maturity being the longest period for which stocks have managed a flat return, not counting inflation.
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Re: I just don't get this rise in interest rates

Post by CantPassAgain »

All of this bond angst has me wondering if I am missing something.

I buy shares of bond funds with the intention of holding them forever, or until such time (hopefully late in life) that I am forced to liquidate. I buy them to reinvest the dividends during my accumulation phase, and live off of the dividends in retirement. The market value of my holdings are irrelevant, until such time as I need to sell.

Yields go up, nav goes down and slowly creeps back up as the bond approaches maturity. Bond matures, take that money and buy a new bond with a higher yield. That's a win. Bond funds contain blocks of bonds which are constantly maturing. Funds also can be forced to sell some holdings before maturity but they have to turn around and reinvest that cash in a short period of time so I can't really see that as a huge issue.

So what am I missing here? Why is everyone freaking out about this?
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Re: I just don't get this rise in interest rates

Post by longview »

thx1138 wrote:The Fed only controls short term interest rates. Longer term rates are the market estimate of inflation and growth - not under Fed control. With QE the Fed has been influencing longer term rates by purchasing bonds but that is not direct control. Interest rates changed because the market is reacting to what they think the Fed and the economy will do in the future. Opinions and sentiment can change quickly, hence rates can too.
Thank you. Is there a good book that explains the ins/outs of how this happens in practice? I understand that the stock market is someone tries to sell something -- so there is a price for a buyer, and viceversa. "Interest rates" seems more like institutional black magic that I have no part in.
(To color my comments: my situation is ER trying to make a large portfolio that is 99% taxable last 45 years)
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Re: I just don't get this rise in interest rates

Post by Jfet »

I wouldn't say freaking out, but I would like to know why it is considered reasonable to justify a somewhat large loss in a bond price just by saying "I will hold it 30 years until maturity" when you could say the same thing about a large loss in a stock index price...just hold the stock index until "maturity". From firecalc, it looks like maturity for a stock index isn't really that long, but I still want to pinpoint the worst holding period for a very broad stock index (like VT).
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Re: I just don't get this rise in interest rates

Post by CantPassAgain »

Jfet wrote:I wouldn't say freaking out, but I would like to know why it is considered reasonable to justify a somewhat large loss in a bond price just by saying "I will hold it 30 years until maturity" when you could say the same thing about a large loss in a stock index price...just hold the stock index until "maturity". From firecalc, it looks like maturity for a stock index isn't really that long, but I still want to pinpoint the worst holding period for a very broad stock index (like VT).

Because bonds aren't stocks. Bonds provide you with "guaranteed" fixed income. Stocks do not.

And edit to add, I am sure you understand that stocks do not mature. Hopefully you were speaking metaphorically. Yes, over the long haul stocks tend to do better than bonds as far as asset value. But it is by no means guaranteed and there have been periods of time that stocks have performed abysmally. The volatility of stocks is an order of magnitude greater than bonds, and if you need to liquidate stock holdings the sequence of returns matters (a lot).
Last edited by CantPassAgain on Thu Sep 05, 2013 7:44 pm, edited 2 times in total.
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nisiprius
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Re: I just don't get this rise in interest rates

Post by nisiprius »

Jfet wrote:
nisiprius wrote:
Jfet wrote:The argument that you can hold a bond until it matures and get your money back doesn't really work when you are losing 1% or possibly much more a year to inflation.
My point was not that bonds are safe, my point is that they can't be grossly overvalued. How can a bubble, as we know it for other asset classes, possibly develop? How far is anyone going to bid up the price of a bond when the best that happen sit that you get your money back, after, as you say, losing something to inflation every year?
Ok, I will agree with you there Nisiprius. So we are saying a bond has limited upside and somewhat limited downside if you hold to maturity.
Yes.
I am trying to figure if a stock index then has unlimited upside but only limited downside if it is held to "maturity", with maturity being the longest period for which stocks have managed a flat return, not counting inflation.
Well, that is a much-debated topic, of course. But that's the ever-popular question of whether stocks could be just plain better than bonds.

I'm interested in a different issue: for those of us who do choose to hold bonds for whatever reason what is the suckiest it could possibly get. I believe that bond bubbles don't get blown up by factors of three, and thus don't collapse by factors of three.
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.
CantPassAgain
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Re: I just don't get this rise in interest rates

Post by CantPassAgain »

This is a great thread. The chart in the first post is one of the best I've seen: http://www.bogleheads.org/forum/viewtop ... 0&t=120947
Jfet
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Re: I just don't get this rise in interest rates

Post by Jfet »

The worst it could possibly get would probably be something like bonds in the Weimar market. For a bond paying about 5% that would be like a 99.99999% loss.

But you would get your principal back. :o
longview
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Re: I just don't get this rise in interest rates

Post by longview »

Jfet wrote:The argument that you can hold a bond until it matures and get your money back doesn't really work when you are losing 1% or possibly much more a year to inflation.

You can hold any stock index for a long enough time to get your money back also...especially if you don't care about inflation.

Can you give me a 50 year time period where a stock index was lower at the end than it was at the start of the period?
Late 1800s to 1932?
(To color my comments: my situation is ER trying to make a large portfolio that is 99% taxable last 45 years)
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Re: I just don't get this rise in interest rates

Post by Jfet »

longview wrote:
Jfet wrote:The argument that you can hold a bond until it matures and get your money back doesn't really work when you are losing 1% or possibly much more a year to inflation.

You can hold any stock index for a long enough time to get your money back also...especially if you don't care about inflation.

Can you give me a 50 year time period where a stock index was lower at the end than it was at the start of the period?
Late 1800s to 1932?
What was the price of VT in 1882 and 1932?
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Re: I just don't get this rise in interest rates

Post by neurosphere »

nisiprius wrote: I'm interested in a different issue: for those of us who do choose to hold bonds for whatever reason what is the suckiest it could possibly get. I believe that bond bubbles don't get blown up by factors of three, and thus don't collapse by factors of three.
The problem when using words like "bubble" or "stinky performance" and other such subjective qualifiers, is relative to WHAT?

For example, relative to stocks, just how bad can a bond bubble be? Nisi says, "not very".

But let's instead compare possible future bond NAVs to the past 100 years of bond NAVs. Lets say that the worst that bonds have every done is to go down "X" percent in "Y" period of time. I.e. the "1929 market crash" equivalent for bonds.

Now, let say someone someone feels that bond are going to go down 70% of X. While the absolute decline may be small, relative to stock crashes, 70% of X is still HUGE given that it approaches the WORST BOND PERFORMANCE EVER. :D

So when talking about bond performance, it's all relative. And the problem in all of these threads is relative to WHAT? Everyone is using is different frame of reference. :D
If you have to ask "Is a Target Date fund right for me?", the answer is "Yes" (even in taxable accounts).
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Re: I just don't get this rise in interest rates

Post by garlandwhizzer »

nisi wrote:
I'm interested in a different issue: for those of us who do choose to hold bonds for whatever reason what is the suckiest it could possibly get. I believe that bond bubbles don't get blown up by factors of three, and thus don't collapse by factors of three.
The following is a direct quote from Jason's Zweig's article reviewing a book authored by Bernstein who himself is a big fan of bonds. In it, Bernstein discusses deep risk and shallow risk and he details exactly what nisi asks for: the worst nightmare scenario for bonds.

"While bonds protect you from deflation, they expose you to inflation—far and away the likeliest source of deep risk. Mr. Bernstein notes that inflation can destroy at least 80% of the purchasing power of a bond portfolio over periods as long as 40 years. That is deep risk at its deepest—a hole so profound most investors can’t get out of it in a lifetime. That happened in, among other places, France, Italy and Japan from 1940 through 1979, Mr. Bernstein says."

80% loss of purchasing power over 4 decades amounts to the Hall of Fame for bad market returns. The "safety" of bonds is highly dependent on tame inflation. Inflation has been decreasing in the US for more than 30 years from 15% to less than 2%. Does that mean it will never recur with ever increasing force in the future? I don't know and neither does anyone else, but it is a possibility, one that bond investors with long time horizons should perhaps be aware of. Substantial inflation in the short or even the intermediate term is unlikely in my opinion but in the long term I believe it is a real possibility. And if it happens your ten year Treasury that yields 1.6% won't be worth much.

Garland Whizzer
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Re: I just don't get this rise in interest rates

Post by Jfet »

I put in a $1000 portfolio into

http://www.cfiresim.com/input.html

For a period of 30 years, 100% equities, $0 withdrawal rate, historical stock returns from 1870 to 2013

Average Ending Portfolio:
$6,617.78
Median Ending Portfolio:
$5,907.08
Standard Deviation of Ending Portfolios:
$3,064.40
With an overall lowest Ending Portfolio of:
$2,335.48
and an overall highest Ending Portfolio of:
$15,852.43
Average Total Withdrawals of:
$0.00
Failed 0 times out of 113 cycles, for a 100% success rate.
longview
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Re: I just don't get this rise in interest rates

Post by longview »

Jfet wrote:I wouldn't say freaking out, but I would like to know why it is considered reasonable to justify a somewhat large loss in a bond price just by saying "I will hold it 30 years until maturity" when you could say the same thing about a large loss in a stock index price...just hold the stock index until "maturity". From firecalc, it looks like maturity for a stock index isn't really that long, but I still want to pinpoint the worst holding period for a very broad stock index (like VT).
Because duration is defined. I can buy intermediate term tax-exempt and know I will make 2.5%, 5 years from a big NAV drop today. Equities offer no such plan. I can get short-term and know Ill make 1-1.7% a year after the spike. It's fixed income.

Equities tend to go up also, that's all they have in common. But everything tends to go up -- so you can make the same argument about anything. Buy real estate, not stocks or bonds, etc.

The idea is to get many things that all go up, and they can help balance each other out during the rough patches.
(To color my comments: my situation is ER trying to make a large portfolio that is 99% taxable last 45 years)
curmudgeon
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Re: I just don't get this rise in interest rates

Post by curmudgeon »

nisiprius wrote: I'm interested in a different issue: for those of us who do choose to hold bonds for whatever reason what is the suckiest it could possibly get. I believe that bond bubbles don't get blown up by factors of three, and thus don't collapse by factors of three.
I would say that bonds can, and have been, blown up by factors vastly greater than three. I should dig out my Moms old postage stamp collection to show a visual example. She had relatives in Germany as a child, and watching the progression of stamp values (used for ordinary sea mail) go from a few cents to billions of marks over the course of a couple of years is a mind-boggling display. It makes our "great depression" stock market losses look like a mere bump in the road. While the policies and issues of post-WWI Germany were significantly different, I don't have a huge confidence that the Fed and the politicians are going to prove themselves neatly adept at creating the "just right" level of inflation they desire.

There are plenty of examples in other markets/countries as well.

Whether this justifies staying out of bonds is a different story, of course. At a minimum, I expect a somewhat bumpy ride in intermediate/long bonds for the next several years as money managers rush around trying to stay ahead of each other but also seeking yield. I'm avoiding longer bonds myself until the dust settles a bit, but I don't claim to be able to prove this as a wise decision; it's just my variation on risk tolerance.
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Re: I just don't get this rise in interest rates

Post by Jfet »

I just retested for a 20 year time period

$1000 into 100% equities, 0% withdrawal, historical data from 1871 to 2013

This looks to be about the shortest period that you get your original $1000 back in all cases...so I would call the stock maturity holding period to be 20 years.


Average Ending Portfolio:
$3,910.55
Median Ending Portfolio:
$3,519.67
Standard Deviation of Ending Portfolios:
$2,118.08
With an overall lowest Ending Portfolio of:
$1,053.28
and an overall highest Ending Portfolio of:
$10,401.46
Average Total Withdrawals of:
$0.00
Failed 0 times out of 123 cycles, for a 100% success rate.
(All amounts are listed in Today's Dollars)
longview
Posts: 385
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Re: I just don't get this rise in interest rates

Post by longview »

Jfet wrote:I put in a $1000 portfolio into

http://www.cfiresim.com/input.html

For a period of 30 years, 100% equities, $0 withdrawal rate, historical stock returns from 1870 to 2013

Average Ending Portfolio:
$6,617.78
Median Ending Portfolio:
$5,907.08
Standard Deviation of Ending Portfolios:
$3,064.40
With an overall lowest Ending Portfolio of:
$2,335.48
and an overall highest Ending Portfolio of:
$15,852.43
Average Total Withdrawals of:
$0.00
Failed 0 times out of 113 cycles, for a 100% success rate.
I think you're playing a different game -- Im not playing the theoretical what portfolio will be highest when never used game. We're playing the retirement game, which is different. If you went all stock, and started retirement in 1929, you would be utterly and completely screwed. Just "whoops" screwed. Time to call the kids and grand kids.

That is why bonds are in a portfolio, and tend to take on a larger role as you near retirement.
(To color my comments: my situation is ER trying to make a large portfolio that is 99% taxable last 45 years)
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