More from Bill Gross

Discuss all general (i.e. non-personal) investing questions and issues, investing news, and theory.
Topic Author
Beagler
Posts: 3442
Joined: Sun Dec 21, 2008 6:39 pm

More from Bill Gross

Post by Beagler »

Treasuries, inflation etc. from Bill Gross

http://www.pimco.com/EN/insights/pages/ ... art-2.aspx
“The only place where success come before work is in the dictionary.” Abraham Lincoln. This post does not provide advice for specific individual situations and should not be construed as doing so.
yakers
Posts: 333
Joined: Mon Feb 19, 2007 10:52 pm
Location: Pasadena, CA

Post by yakers »

I didn't bother to read the article. Gross is very interesting and I pay a lot of attention to what he does but not to what he says.
User avatar
magician
Posts: 1571
Joined: Mon May 02, 2011 1:08 am
Location: Yorba Linda, CA
Contact:

Post by magician »

I used to work for Mr. Gross. He's a nice guy.
Simplify the complicated side; don't complify the simplicated side.
fishndoc
Posts: 2327
Joined: Wed Apr 11, 2007 11:50 am

Post by fishndoc »

Gross is anything but wishy-washy with his opinions on the politics of gov't debt.
The following is probably the only quote from the article that our forum administrators will allow (hopefully):
The point of the Reinhart paper was not to state the obvious – that inflation is bad for bonds. Their financial repressionary thesis points out that bond prices don’t necessarily have to go down for savers to get skunked during a process of “debt liquidation.” The argument over whether the end of QEII on June 30 will result in higher yields and lower Treasury bond prices is, in a sense, a secondary one. Even if 10-year Treasuries stay where they are at 3.30%, and fed funds close to 0%, savers and financial intermediaries are being shortchanged by both of these yields and everything in between.
" Successful investing involves doing just a few things right, and avoiding serious mistakes." - J. Bogle
staythecourse
Posts: 6993
Joined: Mon Jan 03, 2011 8:40 am

Post by staythecourse »

yakers wrote:I didn't bother to read the article. Gross is very interesting and I pay a lot of attention to what he does but not to what he says.
Only problem is you only find out what he does after he has done it so the information is useless.

Good luck.
"The stock market [fluctuation], therefore, is noise. A giant distraction from the business of investing.” | -Jack Bogle
Roy
Posts: 970
Joined: Wed Sep 10, 2008 9:34 am

Post by Roy »

staythecourse wrote:
yakers wrote:I didn't bother to read the article. Gross is very interesting and I pay a lot of attention to what he does but not to what he says.
Only problem is you only find out what he does after he has done it so the information is useless.
Exactly.
Topic Author
Beagler
Posts: 3442
Joined: Sun Dec 21, 2008 6:39 pm

Post by Beagler »

I posted the link as a reference for Gross' recent thoughts, not as a template for market timing decisions.
“The only place where success come before work is in the dictionary.” Abraham Lincoln. This post does not provide advice for specific individual situations and should not be construed as doing so.
skibbi9
Posts: 248
Joined: Wed Feb 09, 2011 9:19 am

Post by skibbi9 »

Thank you beagler, I like reading gross' notes/thoughts. As many people said its not good information for what to do/timing, but i do like it for: this is what has happened and how we reacted to it... kind of short term reflection on what has been happening.

interesting stuff
User avatar
Random Musings
Posts: 6770
Joined: Thu Feb 22, 2007 3:24 pm
Location: Pennsylvania

Post by Random Musings »

Bill Gross's thought of utilizing emerging debt ties into the GMO forecast of that being the best choice for bonds right now in terms of real returns.

RM
biasion
Posts: 1417
Joined: Mon Aug 13, 2007 8:23 pm

Post by biasion »

fishndoc wrote:Gross is anything but wishy-washy with his opinions on the politics of gov't debt.
The following is probably the only quote from the article that our forum administrators will allow (hopefully):
The point of the Reinhart paper was not to state the obvious – that inflation is bad for bonds. Their financial repressionary thesis points out that bond prices don’t necessarily have to go down for savers to get skunked during a process of “debt liquidation.” The argument over whether the end of QEII on June 30 will result in higher yields and lower Treasury bond prices is, in a sense, a secondary one. Even if 10-year Treasuries stay where they are at 3.30%, and fed funds close to 0%, savers and financial intermediaries are being shortchanged by both of these yields and everything in between.
I agree 2,000%, but I will add this: an individual asset's performance will not necessarily drag down performance of a portfolio even if its returns are expected to be negative as long as it is uncorrelated with the rest of the portfolio. It can actually increase returns if it provides ballast when the rest of the portfolio decreases in value.

This is why:
a) high quality fixed is always the way to go, no matter what (see my other bond posts)
b) you always need different asset classes, IE, even an 85 year old highly conservative investor should be at least 10-20% equity. Think back to 1945-1955, not only did nominal bonds underperform stocks, but they also underperformed inflation.

IMHO Bill Gross has a very unsophisticated view of the bond markets, and this view attracts a lot of headlines and thus sales for his overpriced bond funds. However, put it this way, even if treasuries are starting to be suspect what else can diversify???. Since all assets in the US are backed by dollars and treasuries anyhow, if treasuries default then everything except maybe your house, ? commodity futures fund (not sure about this one though) and gold under the matterass will go to zero. Stocks might not go to zero, but a treasury default would cause total market panic and at least in the short term create a huge and terrible bear market as well. This is why in a given country, by definition no security denominated in that currency can be rated higher than the sovereign debt rating of that currency.

Even if Beverly Hills Botox sewer bonds whose guarantor uses gold pipes, has infinite supply of virgin starlets to sell, and posess only billionaires in the neighborhood are denominated in dollars, you still depend on the dollar. It may have huge surpluses every year, doesn't matter if the dollar fails. Say a 30 year bond with 5% coupon bought at par experiences a dollar bear market where previous dollars are devalued 75%, so will this botox bond.
1. Do not confuse strategy with outcome | 2. Those who fail to plan plan to fail | 3. Do not assume the unlikely is impossible, and | 4. Be ready to deal with the consequences if you do.
yobria
Posts: 5978
Joined: Mon Feb 19, 2007 10:58 pm
Location: SF CA USA

Post by yobria »

Thanks, Gross' comments are always fun to read. I'd never change my investments based on them though, since the market has a whole has so much more information than he does.

Nick
skibbi9
Posts: 248
Joined: Wed Feb 09, 2011 9:19 am

Post by skibbi9 »

biasion wrote:IMHO Bill Gross has a very unsophisticated view of the bond markets, and this view attracts a lot of headlines and thus sales for his overpriced bond funds.
aren't they only overpriced if they don't perform better net of fees than their competitors/index? That's a bit of a touchy subject but at only 24bps more expensive than VBMFX/VBIIX, i've made quite a bit more yield with PTTRX over my years of holding it.

24 dollars per 10k is worth 2%/1% better yield respectively in the past 10 years. obviously not a guarantee of future performance but it's worked out well so far.
richard
Posts: 7961
Joined: Tue Feb 20, 2007 2:38 pm
Contact:

Post by richard »

Even if 10-year Treasuries stay where they are at 3.30%, and fed funds close to 0%, savers and financial intermediaries are being shortchanged by both of these yields and everything in between.
Gross is complaining that yields are low. If yields rise, Gross will likely complain about the loss in principal. Was he complaining about the increased returns from decreasing interest rates for the past 30 year?

For the long-term investor, rising yields would be a good thing, even if there is a temporary decrease in principal value - the increased yield means you make it back, and more, over time.

Low interest rates are good if you own stocks; if nothing else, the present value of future earnings is higher. Low interest rates are good if your compensation relates to the health of the economy, as low rates are stimulative (rates should go up when the economy strengthens, but don't confuse cause and effect).
beardsworth
Posts: 2135
Joined: Fri Jun 15, 2007 4:02 pm

Post by beardsworth »

I enjoy reading just about anything by Bill Gross, just to ponder it and interrogate myself on what I think about it. However, the idea of seeking yield by piling in emerging markets bonds, with all their associated risks, is not even on the outermost fringes of my money–handling radar.
biasion wrote:Since all assets in the US are backed by dollars and treasuries anyhow, if treasuries default then everything except maybe your house, ? commodity futures fund (not sure about this one though) and gold under the matterass will go to zero.
And, even aside from the question of whether there's a gold bubble, I think I'd find it very uncomfortable to store gold under my matterass. :)

Marc
Topic Author
Beagler
Posts: 3442
Joined: Sun Dec 21, 2008 6:39 pm

Post by Beagler »

biasion wrote: IMHO Bill Gross has a very unsophisticated view of the bond markets, ....
I've never seen that written before. Well, in spite of that he's done very well for himself (and his bond funds). :)
“The only place where success come before work is in the dictionary.” Abraham Lincoln. This post does not provide advice for specific individual situations and should not be construed as doing so.
User avatar
Lbill
Posts: 4997
Joined: Thu Mar 13, 2008 11:25 pm
Location: Somewhere between Up and Down

Post by Lbill »

Is PIMCO currently offering a fund or funds that are implementing Gross's thoughts about bond returns? I'd be interested in the strategy PIMCO has decided to follow and what it would cost investors to hitch a ride.
"Life can only be understood backward; but it must be lived forward." ~ Søren Kierkegaard | | "You can't connect the dots looking forward; but only by looking backwards." ~ Steve Jobs
3504PIR
Posts: 979
Joined: Mon Jul 26, 2010 2:46 am

Post by 3504PIR »

yakers wrote:I didn't bother to read the article. Gross is very interesting and I pay a lot of attention to what he does but not to what he says.
What does that mean exactly?
User avatar
Dale_G
Posts: 3466
Joined: Tue Feb 20, 2007 4:43 pm
Location: Central Florida - on the grown up side of 85

Post by Dale_G »

Lbill wrote:Is PIMCO currently offering a fund or funds that are implementing Gross's thoughts about bond returns? I'd be interested in the strategy PIMCO has decided to follow and what it would cost investors to hitch a ride.
Try Googling PTRAX

Dale
Volatility is my friend
User avatar
cinghiale
Posts: 1365
Joined: Wed Oct 17, 2007 4:37 pm
Location: A latare Mare Nostrum

Post by cinghiale »

If you are interested in "hitching a ride" with Bill Gross' strategy, I would suggest the flagship fund, PIMCO Total Return. I have my entire 457 plan in that fund (there are a seemingly endless number of ticker symbols; my plan is in PTTRX) and pay a modest 47 basis points (a .47% expense ratio) for the privilege. Coupled with Vanguard's Total Bond Index and TIPS fund, it makes for a nice balance of indexing security with a dash of diversification.
"We don't see things as they are; we see them as we are." Anais Nin | | "Sometimes the first duty of intelligent men is the restatement of the obvious." George Orwell
biasion
Posts: 1417
Joined: Mon Aug 13, 2007 8:23 pm

Post by biasion »

MarcMyWord wrote: And, even aside from the question of whether there's a gold bubble, I think I'd find it very uncomfortable to store gold under my matterass. :)

Marc
So do I. But people who didn't dodged the 97% devaluation of the Lira in Italy post WW2, the 66% devaluation of the Lira the last 10 years (50% of it overnight when going to Euro), will dodge the possible "forced withdrawal" on everyone's savings to pay off the national debt etc. Also the Argentines and others who did the same managed to dodge the defaults, confiscation of bank accounts, confiscation of pension funds etc.

Not suggesting gold, just saying that it is very, very, very difficult to dodge or diversify against a currency default because all of a country's assets denominated in its currency will tumble simultaneously in a way that makes "correlations go to 1" as horrific as it can be.
1. Do not confuse strategy with outcome | 2. Those who fail to plan plan to fail | 3. Do not assume the unlikely is impossible, and | 4. Be ready to deal with the consequences if you do.
biasion
Posts: 1417
Joined: Mon Aug 13, 2007 8:23 pm

Post by biasion »

Beagler wrote:
biasion wrote: IMHO Bill Gross has a very unsophisticated view of the bond markets, ....
I've never seen that written before. Well, in spite of that he's done very well for himself (and his bond funds). :)
That's how he did well for himself. He is the Kramer (and coin flipper) of bonds.

Studies show that anything past the safest and shortest of fixed income generally is not a good diversifier of equity. It doesn't matter that he outperformed total bond because total bond is not that great of a fixed income to begin with. It's not bad, but you can do far better.

The point is this: your investments should be selected based on how the interact and correlate. Studies show that anything but the safest of fixed income carries with it a certain equity risk, so that when equity tanks, so will that fixed income. Put it another way, comparing a 60/40 SP500/total bond or 60/40 SP500/5y treasury, despite TBM having outperfomed 5y treasuries alone, the equity/5y treasury mix actually gave a less volatile and higher returning portfolio.

Taking risk in bonds will mean you lose your rebalancing bonus, and over the long term your portfolio returns and volatility actually suffer.

Don't take your risk with bonds, don't be sold on high yields because they are not higher returns, and don't want to be like Bill Gross unless you think you can flip coins indefinitely and turn heads each time.

And lastly, (my signature), don't confuse strategy with outcome. A sound strategy will be based on what could happen especially if you guess wrong, to minimze the probabilty of screwing up or guessing wrong (hedging w/ treasuries) vs betting on yield. Many times a good outcome occurs due to dumb luck in the face of a reckless strategy, and a person's actions should not be judged by that in retrospect, but rather on the soundness of their plan looking forward.
1. Do not confuse strategy with outcome | 2. Those who fail to plan plan to fail | 3. Do not assume the unlikely is impossible, and | 4. Be ready to deal with the consequences if you do.
Call_Me_Op
Posts: 9881
Joined: Mon Sep 07, 2009 2:57 pm
Location: Milky Way

Post by Call_Me_Op »

yakers wrote:I didn't bother to read the article. Gross is very interesting and I pay a lot of attention to what he does but not to what he says.
I pay a lot of attention to neither. With all due respect, I place it in the category called "noise."
Best regards, -Op | | "In the middle of difficulty lies opportunity." Einstein
skibbi9
Posts: 248
Joined: Wed Feb 09, 2011 9:19 am

Post by skibbi9 »

biasion wrote:
Beagler wrote:
biasion wrote: IMHO Bill Gross has a very unsophisticated view of the bond markets, ....
I've never seen that written before. Well, in spite of that he's done very well for himself (and his bond funds). :)
That's how he did well for himself. He is the Kramer (and coin flipper) of bonds.

Studies show that anything past the safest and shortest of fixed income generally is not a good diversifier of equity. It doesn't matter that he outperformed total bond because total bond is not that great of a fixed income to begin with. It's not bad, but you can do far better.

The point is this: your investments should be selected based on how the interact and correlate. Studies show that anything but the safest of fixed income carries with it a certain equity risk, so that when equity tanks, so will that fixed income. Put it another way, comparing a 60/40 SP500/total bond or 60/40 SP500/5y treasury, despite TBM having outperfomed 5y treasuries alone, the equity/5y treasury mix actually gave a less volatile and higher returning portfolio.

Taking risk in bonds will mean you lose your rebalancing bonus, and over the long term your portfolio returns and volatility actually suffer.

Don't take your risk with bonds, don't be sold on high yields because they are not higher returns, and don't want to be like Bill Gross unless you think you can flip coins indefinitely and turn heads each time.

And lastly, (my signature), don't confuse strategy with outcome. A sound strategy will be based on what could happen especially if you guess wrong, to minimze the probabilty of screwing up or guessing wrong (hedging w/ treasuries) vs betting on yield. Many times a good outcome occurs due to dumb luck in the face of a reckless strategy, and a person's actions should not be judged by that in retrospect, but rather on the soundness of their plan looking forward.
I disagree, but that's fine. On a total return basis again, PTTRX has been significantly better in the long run than some others. Some argue that bill gross influences the market rather than reacting to it. it will take a few bad years (significantly worse than benchmarks) for me to even come back to benchmark ROR
matt
Posts: 2305
Joined: Sun Mar 04, 2007 2:47 pm

Post by matt »

biasion wrote:IMHO Bill Gross has a very unsophisticated view of the bond markets, and this view attracts a lot of headlines and thus sales for his overpriced bond funds.
You're only fooling yourself here. Do not confuse his commentary for public consumption, which is indeed very self-serving, with his understanding of the bond markets. As for portfolio strategy, your comments are irrelevant to almost all bond fund managers. They are hired to outperform their bond benchmarks, not provide a particular correlation with other assets. Portfolio allocators should care more about that, but most of them don't. They evaluate managers on a standalone basis. PIMCO is just trying to accomplish what they are hired to do; they don't really care what role you think bonds should play.
biasion
Posts: 1417
Joined: Mon Aug 13, 2007 8:23 pm

Post by biasion »

matt wrote: Portfolio allocators should care more about that, but most of them don't. They evaluate managers on a standalone basis. PIMCO is just trying to accomplish what they are hired to do; they don't really care what role you think bonds should play.
skibbi9 wrote:I disagree, but that's fine. On a total return basis again, PTTRX has been significantly better in the long run than some others. Some argue that bill gross influences the market rather than reacting to it. it will take a few bad years (significantly worse than benchmarks) for me to even come back to benchmark ROR
That's the problem. Outperformance as we know is simply related to random chance. If Bill Gross outperformed, it is immaterial to your decision to select this as a fund because in doing so he either had luck or took more risk than whatever benchmark, usually both.

The reason why investors should care is that in doing so, you will mix PIMCO's fund with the rest of your investments. I have already explained ad nauseum that risk is not rewarded in the bond arena, particularly when you mix the bonds with equity, something that unsophisticated investors don't realize. In other words, while treasuries got outperformed by a variety of other bonds for X amount of years, when you mix them with equities, the equity/treasury only porfolio actually has better return and lower risk.

While PIMCO might have outperformed whatever bench mark, the point is that using the data, the fact of the matter is that if he used anything except the highest credit quality fixed income to do that will actually lower your overall returns and increase your risk when you start mixing those riskier bonds with equity.
1. Do not confuse strategy with outcome | 2. Those who fail to plan plan to fail | 3. Do not assume the unlikely is impossible, and | 4. Be ready to deal with the consequences if you do.
User avatar
Noobvestor
Posts: 5944
Joined: Mon Aug 23, 2010 1:09 am

Post by Noobvestor »

A small illustration of the above-made points re:correlations/total portfolio:

http://quote.morningstar.com/fund/chart ... %2C0%22%7D

So stocks are going down, and PIMCO Total is going down, but Treasuries are going up ... it's not a proof of anything, just makes me squirmish to have my safe assets go down with the market. Hence, TIPS and Treasuries for me. PIMCO is about total return, and that's great ... I'm about total portfolio, which is different.
"In the absence of clarity, diversification is the only logical strategy" -= Larry Swedroe
User avatar
joe8d
Posts: 4545
Joined: Tue Feb 20, 2007 7:27 pm
Location: Buffalo,NY

Post by joe8d »

Every time something significant involving interest rates happens,CNBC seeks comments from Bill Gross and VG's Ken Volpert.I do listen to what they have to say
All the Best, | Joe
Bongleur
Posts: 2276
Joined: Fri Dec 03, 2010 9:36 am

Post by Bongleur »

>coin flipper) of bonds.

But: Rosenkranz and Guildenstern ARE dead... ;)
Seeking Iso-Elasticity. | Tax Loss Harvesting is an Asset Class. | A well-planned presentation creates a sense of urgency. If the prospect fails to act now, he will risk a loss of some sort.
User avatar
Munir
Posts: 3200
Joined: Mon Feb 26, 2007 3:39 pm
Location: Oregon

Post by Munir »

joe8d wrote:Every time something significant involving interest rates happens,CNBC seeks comments from Bill Gross and VG's Ken Volpert.I do listen to what they have to say
I do the same, and respect their views much more than what is said by some on this forum. Both, in addition to Buffett and Zweig, are advising investors to shun treasuries.

One may disagree with Gross, but to claim that he has an unsophisticated view of the bond market is over the top- to put it mildly.
fundtalk
Posts: 334
Joined: Tue Jun 05, 2007 3:52 pm

Post by fundtalk »

It's too bad that posters can't seem to discuss the message rather than the messenger. It is almost with a religious fervor that some feel the need to denigrate every successful active manager as lucky, or, to state common investing beliefs on this forum as absolute truisms regardless of the current context.

My understanding of what Bill Gross is saying is that current policy is leading to treasuries being priced to provide negative real returns. He advocates looking outside the US treasury market to provide extra yield in an effort to avoid negative real returns. Is this worth discussing or should we all just keep buying treasuries at any price?

I read a recent update from the "Triumph of the Optimists" authors. The largest bond bear market in us history started in 1940. If you invested in 1940, you had a maximum drawdown of -67% in real returns and you remained in negative territory (again, real return ) until 1991. Real return on govt. bonds in the US was 0.2% from 1900 to 1980. Real returns on govt. bonds from 1980 to 2010 was 6.1%. Maybe this is what a bond bubble looks like?
ladders11
Posts: 886
Joined: Fri Nov 14, 2008 3:20 pm

Post by ladders11 »

fundtalk wrote:My understanding of what Bill Gross is saying is that current policy is leading to treasuries being priced to provide negative real returns. He advocates looking outside the US treasury market to provide extra yield in an effort to avoid negative real returns. Is this worth discussing or should we all just keep buying treasuries at any price?
Good point. I am a firm believer in long-term market cycles that may span two decades or more. As such, I am willing to consider that past performance, of the last 30, 40, or even 50 years, will not equal future performance. I am aware that the most recent history may not be an appropriate guide for future considerations.

I've seen lots of facts and data, and like to think that good sources have engendered this opinion. But, I feel like it is a good bit of "common sense."

Separately, I don't think avoiding US Treasuries is difficult, or that it requires excessive risk. Bill Gross is saying these things in an alarmist manner, and I'm afraid that some consider his opinions as suggestions to suddenly sell US Treasuries and buy poorly rated "banana republic" bonds. Consider that a portfolio of FNMA, FHLMC, GNMA, high-quality corporate bonds, Canadian government bonds, Australian government bonds, and Swiss government bonds (etc.) would be very safe and real return would not be negative.

AND, the idea that your bond portfolio should solely consist of US Treasuries is foolish. A lot of Bogleheads believe this, and I don't agree at all.
fishndoc
Posts: 2327
Joined: Wed Apr 11, 2007 11:50 am

Post by fishndoc »

fundtalk wrote: I read a recent update from the "Triumph of the Optimists" authors. The largest bond bear market in us history started in 1940. If you invested in 1940, you had a maximum drawdown of -67% in real returns and you remained in negative territory (again, real return ) until 1991. Real return on govt. bonds in the US was 0.2% from 1900 to 1980.
Wow, I didn't realize it was that bad.

I'm afraid many who are so confident of the "bond lessons" that were learned over the last 25 years, are not that dissimilar from the equity investors in early 2000, who were so certain about what the future held, based on the wisdom and lessons they learned during the 1990's.

What is that phrase? "Past performance does not indicate future returns..."
" Successful investing involves doing just a few things right, and avoiding serious mistakes." - J. Bogle
biasion
Posts: 1417
Joined: Mon Aug 13, 2007 8:23 pm

Post by biasion »

fundtalk wrote:It's too bad that posters can't seem to discuss the message rather than the messenger. It is almost with a religious fervor that some feel the need to denigrate every successful active manager as lucky, or, to state common investing beliefs on this forum as absolute truisms regardless of the current context.
I stand corrected. He is not a coin flipper. He is a snake oil salesmen, and the poison is exactly what investors want: yield, which is a mistake. (see below). In short, he basically took equity risk with his bonds to provide those higher real returns when in fact, a better portfolio would have been a heavily treasury oriented one with small bit of commodities and some equity. Despite low treasury yields, it would have had higher expected returns because if you see the financial literature on the topic, taking extra risk with bonds has never been appropriately rewarded, and worse of all, mixing equity risk in your bonds thinking that it will "diversify" your equity holdings actually decreases, not increases your long term returns and increases volatility. I reference Larry Swedroe's articles on a 60/40 portfolio using that 40% fixed either as Total Bond vs treasuries, and despite total bond having outperformed treasuries in isolation, when blended w/ 60% S&P500, the portfolio containing the treasuries had not only higher returns, but also lower risk.

The reason for this is because of lack of correlation, simple indeed: When equity tanks, treasuries gain. Treasuries gain, you rebalance back into equity during the bear, and that is where you make most of your long term equity premium returns.

See other posts regarding "diversification doesn't work". People felt that way because they didn't really diversify. There are risky assets, and riskless ones. You need both. While treasuries or other high quality fixed have mostly negative expected returns, they are still worthwhile due to the rebalancing bonus they will provide (See below). Nothing else really diversifies as well
fundtalk wrote: My understanding of what Bill Gross is saying is that current policy is leading to treasuries being priced to provide negative real returns. He advocates looking outside the US treasury market to provide extra yield in an effort to avoid negative real returns. Is this worth discussing or should we all just keep buying treasuries at any price?
Bill Gross is wrong, flat out. Bill Gross does not know what he is talking about because simply making this statement shows he is unaware of the literature. And people have a hard time understanding what they are paid not to understand. (see above for reference).
fundtalk wrote: I read a recent update from the "Triumph of the Optimists" authors. The largest bond bear market in us history started in 1940. If you invested in 1940, you had a maximum drawdown of -67% in real returns and you remained in negative territory (again, real return ) until 1991. Real return on govt. bonds in the US was 0.2% from 1900 to 1980. Real returns on govt. bonds from 1980 to 2010 was 6.1%. Maybe this is what a bond bubble looks like?
A lot of this was for longer term bonds. But again, never look at single asset returns in isolation, but how they behave in tandem. The prudent thing to do, always, is to have an extremely high quality equity position that is consistent with your goals. Real returns of 0.2%, that is excellent. That is exactly what is needed: principal protection, because that is the role of fixed income in a portfolio.

If you take even a relatively fixed heavy portfolio and add a small amount of equity, particularly w/ small value tilt, because small value totally tanks during the bears which is when the tresuries shine, giving you dry powder to rebalance down and lock in those gains long term, and 5% commodities, you would have had positive returns basically all the time.
1. Do not confuse strategy with outcome | 2. Those who fail to plan plan to fail | 3. Do not assume the unlikely is impossible, and | 4. Be ready to deal with the consequences if you do.
User avatar
Munir
Posts: 3200
Joined: Mon Feb 26, 2007 3:39 pm
Location: Oregon

Post by Munir »

A little humility can go a long way!
biasion
Posts: 1417
Joined: Mon Aug 13, 2007 8:23 pm

Post by biasion »

ladders11 wrote: Separately, I don't think avoiding US Treasuries is difficult, or that it requires excessive risk. Bill Gross is saying these things in an alarmist manner, and I'm afraid that some consider his opinions as suggestions to suddenly sell US Treasuries and buy poorly rated "banana republic" bonds. Consider that a portfolio of FNMA, FHLMC, GNMA, high-quality corporate bonds, Canadian government bonds, Australian government bonds, and Swiss government bonds (etc.) would be very safe and real return would not be negative.

AND, the idea that your bond portfolio should solely consist of US Treasuries is foolish. A lot of Bogleheads believe this, and I don't agree at all.
Your returns will actually suffer. Do see my other recent posts to the topic. Remember that you should not consider asset clases in isolation, but how they behave in tandem (see my immediate above post). Read that, read it closely!

Again, GNMA's and Swiss bonds and corporates all have equity correlation. Remember 2008 when everyone complained that diversification didn't work? Bollocks. There are risky assets and riskless assets. GNMA's and Swiss bonds and high quality corporates are still risky.

Here is an example for GNMA's
http://moneywatch.bnet.com/investing/bl ... lios/1229/

And search around for comments about foreign bonds: basically still high risk but low reward, and the currency fluctuations more than outweigh any rewards.

You have equity for the growth. And you get the growth by rebalancing all the way down during bears. If your fixed also tanks at the same time, you lose the rebalancing bonus, and despite the "lower yield", your portfolio returns actually decrease.
1. Do not confuse strategy with outcome | 2. Those who fail to plan plan to fail | 3. Do not assume the unlikely is impossible, and | 4. Be ready to deal with the consequences if you do.
fishndoc
Posts: 2327
Joined: Wed Apr 11, 2007 11:50 am

Post by fishndoc »

The prudent thing to do, always, is to have an extremely high quality equity position that is consistent with your goals.
I would say a more "prudent" option would be to use caution in assuming that the future will dependably follow the same path as the past.
Despite what one reads in one page on-line blogs, investing is never just a cookbook where you mix in the ingredients in one "just right" proportion, and always get the same result.

For an investor with an equity dominated portfolio, I agree that nothing beats (so far) treasuries - Swenson convinced me of that. But, if one invests mainly in bonds, and uses a much smaller equity position, then the lower correlation of treasuries is not as important as their usually lower yield. Expanding one's fixed income holdings is reasonable, and likely will result in better returns.

FWIW, my own portfolio is bond heavy, with enough equities to hopefully cover inflation. I use mainly treasury, CD and TIPS ladders, but do have enough in TBM for rebalancing, and some diversification.
" Successful investing involves doing just a few things right, and avoiding serious mistakes." - J. Bogle
biasion
Posts: 1417
Joined: Mon Aug 13, 2007 8:23 pm

Post by biasion »

fishndoc wrote:
The prudent thing to do, always, is to have an extremely high quality equity position that is consistent with your goals.
I would say a more "prudent" option would be to use caution in assuming that the future will dependably follow the same path as the past.
Despite what one reads in one page on-line blogs, investing is never just a cookbook where you mix in the ingredients in one "just right" proportion, and always get the same result.

For an investor with an equity dominated portfolio, I agree that nothing beats (so far) treasuries - Swenson convinced me of that. But, if one invests mainly in bonds, and uses a much smaller equity position, then the lower correlation of treasuries is not as important as their usually lower yield. Expanding one's fixed income holdings is reasonable, and likely will result in better returns.

FWIW, my own portfolio is bond heavy, with enough equities to hopefully cover inflation. I use mainly treasury, CD and TIPS ladders, but do have enough in TBM for rebalancing, and some diversification.
Treasuries at that point become much more important actually because volatility in your bonds can create losses from which you will never recover (because bonds are low return).

The thing to do in your situation is tilt small value and/or emerging markets to your equity. Why? Because it's risky and dangerous. It will tank, bad, worse than TSM actually. And that is why the expected returns are higher, but you need pure treasuries to tap into that return. When SV/EM tank, you sell off the uncorrrelated treasuries to tap the risk premium when the premium is at its highest and everyone is panicking.

At any rate, if you like higher yields, I would encourage you to look into high quality municipals.

I buy from Stoever Glass (no financial benefit, there is no benefit for me making referrals nor any gain). It is a discount bond firm which charges far lower commissions than Vanguard or Fidelity. They keep costs down because they don't do electronic trading (you have to mail in your check) and still use a dot-matrix printer to print the statements.

I keep my munis AA/AAA but I buy "odd lots", lots of 5 or 10 (5,000 or 10,000 face value).

Yes, if a bond of same maturity and credit rating has higher yield, there is always something wrong with it (join www.municipalbonds.com, it is worth the 140 dollars so you can see the credit rating and any negative watchlist information).

That said, I can buy pre-refunded municipals that are tax free treasuries that yield way more than treasuries for equivalent maturity more due to the liquidity premium, IE, 4% at 10 years, 1.35% for 16 months and everything in between.

I suggest you read Larry Swedroe's "alternative investments", "bond book" and "right financial plan". Also read Annette Thau's "bond book". Then come back and discuss. Really, I would encourage you to read those 4 books regarding fixed income investing; you have nothing to lose and a ton to gain. I am not trying to pick a fight but it seems that you don't know the facts as well as you could/should as many don't, and you are at risk.

The reason I say this is because I made the same mistakes for a while too! I am on a tear about this fixed income stuff because I made that mistake, but once you really read the data, it's more than just replicating past performance. You see how unlikely is not impossible etc.

The difference in knowing this information and acting on it, especially if you're retired is the difference between leaving a legacy or... eating cat food.

I hope you or others don't take offense to this statement, and I mean it in the most friendly way. Read those books and then let's post again, they are all easy reads (Thau's book is long though), and totally worth it.

And if you are interested in the muni bond thing, PM me and let me know.

I wish only the best for all!
Ciao
1. Do not confuse strategy with outcome | 2. Those who fail to plan plan to fail | 3. Do not assume the unlikely is impossible, and | 4. Be ready to deal with the consequences if you do.
fishndoc
Posts: 2327
Joined: Wed Apr 11, 2007 11:50 am

Post by fishndoc »

I suggest you read Larry Swedroe's "alternative investments", "bond book" and "right financial plan". Also read Annette Thau's "bond book". Then come back and discuss. Really, I would encourage you to read those 4 books regarding fixed income investing; you have nothing to lose and a ton to gain. I am not trying to pick a fight but it seems that you don't know the facts as well as you could/should as many don't, and you are at risk
Thanks for the reading list - I believe I have read most of them.

I would suggest you might want to look at CFA Institute's "Managing Investment Portfolios: A Dynamic Process" by Maginn, and "Fixed Income Analysis" by Fabozzi.
You'll find them a little more comprehensive.
" Successful investing involves doing just a few things right, and avoiding serious mistakes." - J. Bogle
biasion
Posts: 1417
Joined: Mon Aug 13, 2007 8:23 pm

Post by biasion »

fishndoc wrote:
I suggest you read Larry Swedroe's "alternative investments", "bond book" and "right financial plan". Also read Annette Thau's "bond book". Then come back and discuss. Really, I would encourage you to read those 4 books regarding fixed income investing; you have nothing to lose and a ton to gain. I am not trying to pick a fight but it seems that you don't know the facts as well as you could/should as many don't, and you are at risk
Thanks for the reading list - I believe I have read most of them.

I would suggest you might want to look at CFA Institute's "Managing Investment Portfolios: A Dynamic Process" by Maginn, and "Fixed Income Analysis" by Fabozzi.
You'll find them a little more comprehensive.
I will and have added them to my "to buy list".

One thing I learned as a physician is that you never, ever can learn enough.

When you're in school, you think "oh, if only I graduate, if only I have the degree, if only I have the job, if only I get married, if only I get a house, if only I get kids, then I'll be where I want or need to be".

Well, life happens. Realistically every year you learn more, you progress. If you ever make it to the "I've made it, I need no more", that is where the downfall begins.

I will happily read these books, but so far with the evidence I have seen (which can always change), I remain unconvinced about all but the safest fixed income due to the lack of equity correlation and rebalancing bonus.

I will read these books. I have just ordered them. They are very expensive, but I am willing to learn something new and will read them.

However, I am just curious, given the equity correlation in anything but the highest quality bonds, why do you think they are worthwhile and the risks compensated if you already have equity in a portfolio?

Have a great night and thanks for the lively discussion!
B
1. Do not confuse strategy with outcome | 2. Those who fail to plan plan to fail | 3. Do not assume the unlikely is impossible, and | 4. Be ready to deal with the consequences if you do.
User avatar
Munir
Posts: 3200
Joined: Mon Feb 26, 2007 3:39 pm
Location: Oregon

Post by Munir »

biasion wrote:
fishndoc wrote:
The prudent thing to do, always, is to have an extremely high quality equity position that is consistent with your goals.
I would say a more "prudent" option would be to use caution in assuming that the future will dependably follow the same path as the past.
Despite what one reads in one page on-line blogs, investing is never just a cookbook where you mix in the ingredients in one "just right" proportion, and always get the same result.

For an investor with an equity dominated portfolio, I agree that nothing beats (so far) treasuries - Swenson convinced me of that. But, if one invests mainly in bonds, and uses a much smaller equity position, then the lower correlation of treasuries is not as important as their usually lower yield. Expanding one's fixed income holdings is reasonable, and likely will result in better returns.

FWIW, my own portfolio is bond heavy, with enough equities to hopefully cover inflation. I use mainly treasury, CD and TIPS ladders, but do have enough in TBM for rebalancing, and some diversification.
Treasuries at that point become much more important actually because volatility in your bonds can create losses from which you will never recover (because bonds are low return).

The thing to do in your situation is tilt small value and/or emerging markets to your equity. Why? Because it's risky and dangerous. It will tank, bad, worse than TSM actually. And that is why the expected returns are higher, but you need pure treasuries to tap into that return. When SV/EM tank, you sell off the uncorrrelated treasuries to tap the risk premium when the premium is at its highest and everyone is panicking.

At any rate, if you like higher yields, I would encourage you to look into high quality municipals.

I buy from Stoever Glass (no financial benefit, there is no benefit for me making referrals nor any gain). It is a discount bond firm which charges far lower commissions than Vanguard or Fidelity. They keep costs down because they don't do electronic trading (you have to mail in your check) and still use a dot-matrix printer to print the statements.

I keep my munis AA/AAA but I buy "odd lots", lots of 5 or 10 (5,000 or 10,000 face value).

Yes, if a bond of same maturity and credit rating has higher yield, there is always something wrong with it (join www.municipalbonds.com, it is worth the 140 dollars so you can see the credit rating and any negative watchlist information).

That said, I can buy pre-refunded municipals that are tax free treasuries that yield way more than treasuries for equivalent maturity more due to the liquidity premium, IE, 4% at 10 years, 1.35% for 16 months and everything in between.

I suggest you read Larry Swedroe's "alternative investments", "bond book" and "right financial plan". Also read Annette Thau's "bond book". Then come back and discuss. Really, I would encourage you to read those 4 books regarding fixed income investing; you have nothing to lose and a ton to gain. I am not trying to pick a fight but it seems that you don't know the facts as well as you could/should as many don't, and you are at risk.

The reason I say this is because I made the same mistakes for a while too! I am on a tear about this fixed income stuff because I made that mistake, but once you really read the data, it's more than just replicating past performance. You see how unlikely is not impossible etc.

The difference in knowing this information and acting on it, especially if you're retired is the difference between leaving a legacy or... eating cat food.

I hope you or others don't take offense to this statement, and I mean it in the most friendly way. Read those books and then let's post again, they are all easy reads (Thau's book is long though), and totally worth it.

And if you are interested in the muni bond thing, PM me and let me know.

I wish only the best for all!
Ciao
Annette Thau is advising shunning treasuries in favor of corporates in addition to Gross, Buffett, Zweig, and Volpert. Sorry- I don't have a reference but I read her direct quote myself recently.

As a retired physician, I discovered that it's best to keep an open mind and be humble in order to achieve the best quality patient care- and the best for your investments too :) .
biasion
Posts: 1417
Joined: Mon Aug 13, 2007 8:23 pm

Post by biasion »

Munir wrote: Annette Thau is advising shunning treasuries in favor of corporates in addition to Gross, Buffett, Zweig, and Volpert. Sorry- I don't have a reference but I read her direct quote myself recently.

As a retired physician, I discovered that it's best to keep an open mind and be humble in order to achieve the best quality patient care- and the best for your investments too :) .

I am surpised Ms Thau feels that way, her bond book (as of 2 years ago) seemed to favor staying short and more conservative unless yield spreads were wide.

I agree, but after having seen the behavior of corporates through this crisis, I remain completely unconvinced of their value in an investor's portfolio. Even VG's short term investment grade took quite a spill just when you needed it most.

The reason I feel so strongly is beacause all the evidence I have seen, not opinion, but evidence pointing to risk/reward potential basically points a very bleak picture for taking risks on your fixed income side.

On the other hand, the financial industry seems very eager to sell yield, and that is very, very distressing.
1. Do not confuse strategy with outcome | 2. Those who fail to plan plan to fail | 3. Do not assume the unlikely is impossible, and | 4. Be ready to deal with the consequences if you do.
User avatar
Munir
Posts: 3200
Joined: Mon Feb 26, 2007 3:39 pm
Location: Oregon

Post by Munir »

biasion wrote:
Munir wrote: Annette Thau is advising shunning treasuries in favor of corporates in addition to Gross, Buffett, Zweig, and Volpert. Sorry- I don't have a reference but I read her direct quote myself recently.

As a retired physician, I discovered that it's best to keep an open mind and be humble in order to achieve the best quality patient care- and the best for your investments too :) .

I am surpised Ms Thau feels that way, her bond book (as of 2 years ago) seemed to favor staying short and more conservative unless yield spreads were wide.

I agree, but after having seen the behavior of corporates through this crisis, I remain completely unconvinced of their value in an investor's portfolio. Even VG's short term investment grade took quite a spill just when you needed it most.

The reason I feel so strongly is beacause all the evidence I have seen, not opinion, but evidence pointing to risk/reward potential basically points a very bleak picture for taking risks on your fixed income side.

On the other hand, the financial industry seems very eager to sell yield, and that is very, very distressing.
Thank you for your views which I think represent a majority opinion on this forum.

When I refer to corporates, I mean only short term and intermediate term investment grade. They did poorly in 2008 while treasuries excelled, but in 2009 the roles were reversed, and the coprorates recovered to an extent that their two year total return record (2008-2009) was superior to the treasuries (from memory- cannot swear to that). So 2008 was not such a disaster for corporates if one did not panic and sell at the low.
User avatar
Noobvestor
Posts: 5944
Joined: Mon Aug 23, 2010 1:09 am

Post by Noobvestor »

Munir wrote:
biasion wrote:
Munir wrote: Annette Thau is advising shunning treasuries in favor of corporates in addition to Gross, Buffett, Zweig, and Volpert. Sorry- I don't have a reference but I read her direct quote myself recently.

As a retired physician, I discovered that it's best to keep an open mind and be humble in order to achieve the best quality patient care- and the best for your investments too :) .

I am surpised Ms Thau feels that way, her bond book (as of 2 years ago) seemed to favor staying short and more conservative unless yield spreads were wide.

I agree, but after having seen the behavior of corporates through this crisis, I remain completely unconvinced of their value in an investor's portfolio. Even VG's short term investment grade took quite a spill just when you needed it most.

The reason I feel so strongly is beacause all the evidence I have seen, not opinion, but evidence pointing to risk/reward potential basically points a very bleak picture for taking risks on your fixed income side.

On the other hand, the financial industry seems very eager to sell yield, and that is very, very distressing.
Thank you for your views which I think represent a majority opinion on this forum.

When I refer to corporates, I mean only short term and intermediate term investment grade. They did poorly in 2008 while treasuries excelled, but in 2009 the roles were reversed, and the coprorates recovered to an extent that their two year total return record (2008-2009) was superior to the treasuries (from memory- cannot swear to that). So 2008 was not such a disaster for corporates if one did not panic and sell at the low.
Right but ... if you wanted the returns and were willing to take risks, I think the point is that you'd have gotten better risk-adjusted returns from holding some equities and some treasuries. I.e. I think you could have done just as well and with less volatility with a stock/treasury combo, but am open to being proven wrong.

I also have no doubt whatsoever that if *all* someone can hold is bonds they are better off diversifying their treasuries with other types of bond. However, unlike a bond-only fund, we have the freedom to mix bonds and stocks to make a better portfolio than either alone could do.
"In the absence of clarity, diversification is the only logical strategy" -= Larry Swedroe
Roy
Posts: 970
Joined: Wed Sep 10, 2008 9:34 am

Post by Roy »

Munir wrote:
biasion wrote:
Munir wrote: Annette Thau is advising shunning treasuries in favor of corporates in addition to Gross, Buffett, Zweig, and Volpert. Sorry- I don't have a reference but I read her direct quote myself recently.

As a retired physician, I discovered that it's best to keep an open mind and be humble in order to achieve the best quality patient care- and the best for your investments too :) .

I am surpised Ms Thau feels that way, her bond book (as of 2 years ago) seemed to favor staying short and more conservative unless yield spreads were wide.

I agree, but after having seen the behavior of corporates through this crisis, I remain completely unconvinced of their value in an investor's portfolio. Even VG's short term investment grade took quite a spill just when you needed it most.

The reason I feel so strongly is beacause all the evidence I have seen, not opinion, but evidence pointing to risk/reward potential basically points a very bleak picture for taking risks on your fixed income side.

On the other hand, the financial industry seems very eager to sell yield, and that is very, very distressing.
Thank you for your views which I think represent a majority opinion on this forum.

When I refer to corporates, I mean only short term and intermediate term investment grade. They did poorly in 2008 while treasuries excelled, but in 2009 the roles were reversed, and the coprorates recovered to an extent that their two year total return record (2008-2009) was superior to the treasuries (from memory- cannot swear to that). So 2008 was not such a disaster for corporates if one did not panic and sell at the low.

Nice posts, Biasion.

Munir, you are correct in your assumptions with your added proviso included.

But it is easy to sit in the analytical calm of ex-post and say Corporates did better—after one includes the Bull market that followed. Timing of correlations can matter for emotional reasons (and ability to stay on a plan). And sometimes, just looking at year-end returns of particular funds (in isolation) doesn't tell the whole story. Bad timing in retirement (even for short periods) can cause yet greater stress, if all asset classes tank simultaneously. There's nothing wrong with active management or Corporates—providing an investor honestly considers all consequences—including another that added yield is not free money.
vlad
Posts: 48
Joined: Thu Apr 21, 2011 7:26 pm

Post by vlad »

Do you really think that a fund manager who prides himself on and makes his fortune by trying to outsmart the bond market is really going to tell that bond market what he is really thinking?
Really?
saurabhec
Posts: 1816
Joined: Wed Oct 01, 2008 3:52 pm

Post by saurabhec »

vlad wrote:Do you really think that a fund manager who prides himself on and makes his fortune by trying to outsmart the bond market is really going to tell that bond market what he is really thinking?
Really?
Well in this case the actions of their flagship bond fund have been consistent with his publicly articulated views.

I find it amusing that folks feel that they can so easily slam legendary investors. It's almost like they are EMH Wahhabists or something. Some of the scorn no doubt is because of politics. In general this board seems to have a bit of a liberal bent. What Mr. Gross is saying is a bit at odds with mainstream liberal wisdom such as that from Paul Krugman's et. al. I say let the liberals hold on to their precious Treasuries :D
User avatar
Noobvestor
Posts: 5944
Joined: Mon Aug 23, 2010 1:09 am

Post by Noobvestor »

saurabhec wrote:
vlad wrote:Do you really think that a fund manager who prides himself on and makes his fortune by trying to outsmart the bond market is really going to tell that bond market what he is really thinking?
Really?
Well in this case the actions of their flagship bond fund have been consistent with his publicly articulated views.

I find it amusing that folks feel that they can so easily slam legendary investors. It's almost like they are EMH Wahhabists or something. Some of the scorn no doubt is because of politics. In general this board seems to have a bit of a liberal bent. What Mr. Gross is saying is a bit at odds with mainstream liberal wisdom such as that from Paul Krugman's et. al. I say let the liberals hold on to their precious Treasuries and the rest of their well-balanced, low-correlated assets with which they work extremely well :D
FTFY
"In the absence of clarity, diversification is the only logical strategy" -= Larry Swedroe
james22
Posts: 1992
Joined: Tue Aug 21, 2007 2:22 pm

Post by james22 »

biasion wrote:The reason I feel so strongly is beacause all the evidence I have seen, not opinion, but evidence pointing to risk/reward potential basically points a very bleak picture for taking risks on your fixed income side.
Only if risk/reward potential are positively correlated. When valuations change that relationship, one can favor taking risks on the fixed income side.
ladders11
Posts: 886
Joined: Fri Nov 14, 2008 3:20 pm

Post by ladders11 »

biasion wrote: Remember that you should not consider asset clases in isolation, but how they behave in tandem (see my immediate above post). Read that, read it closely!
I appreciate your comments. But, it sounds like you only own bonds to rebalance out of them when stocks go down.
biasion wrote:You have equity for the growth. And you get the growth by rebalancing all the way down during bears. If your fixed also tanks at the same time, you lose the rebalancing bonus, and despite the "lower yield", your portfolio returns actually decrease.
This sort of thing is why I almost always have some cash on hand. Also, my portfolio grows by a significant percentage each year due to income and deposits. I would have a different view if I were retired.

Important point is that US Treasuries may not have a permanently low correlation with the stock market. The fact is that cash always will buy more stock when the market goes down. But, with cash you must "pay to wait."

Seeking a low-correlation asset to pair with the stock market may not always result in US Treasuries. Other high-quality issues with similar risk profiles will also have low correlations, but they may not have been as low in the past. Perception of US Treasuries has changed and is changing. Will they be treated more similarly to other sovereign bonds? I think they might, so I want a diversified portfolio of bonds just like I have with stocks.
biasion
Posts: 1417
Joined: Mon Aug 13, 2007 8:23 pm

Post by biasion »

ladders11 wrote: I appreciate your comments. But, it sounds like you only own bonds to rebalance out of them when stocks go down.
.
Yes I do! That is how bonds work. Basically you get the best risk adjusted returns by doing so. Also remember that when you are retired and you have no more new income to add, or when your net worth starts to dwarf your income, you need to have a bunch tucked away to prepare for the volatility eventuality. You don't know when it will happen, but the older you are, and less human capital you have, the more you want tied up in riskless investments. That said, you still want to take that volatility risk for diversification purposes.
biasion wrote:You have equity for the growth. And you get the growth by rebalancing all the way down during bears. If your fixed also tanks at the same time, you lose the rebalancing bonus, and despite the "lower yield", your portfolio returns actually decrease.
This sort of thing is why I almost always have some cash on hand. Also, my portfolio grows by a significant percentage each year due to income and deposits. I would have a different view if I were retired.

Important point is that US Treasuries may not have a permanently low correlation with the stock market. The fact is that cash always will buy more stock when the market goes down. But, with cash you must "pay to wait."

Seeking a low-correlation asset to pair with the stock market may not always result in US Treasuries. Other high-quality issues with similar risk profiles will also have low correlations, but they may not have been as low in the past. Perception of US Treasuries has changed and is changing. Will they be treated more similarly to other sovereign bonds? I think they might, so I want a diversified portfolio of bonds just like I have with stocks.[/quote]

4 points:

1. Paying to wait or cash is not a problem, really. As long as your fixed income is low correlation and high quality it generally does not matter because historically, fixed income returns have outpaced inflation by a very small margin. And generally, anything past 1 year of duration starts to add equity risk. The longer you go, the more equity risk you are stuffing into your portfolio. It is highly inadvisable to go past the short term with bonds, ever, unless you have a heavily equity portfolio where the volatility is ruled by the equity part.

2. By taking the excess risk with bonds instead of stocks, you are basically taking risks that are systematic and very hard to diversify. Taking longer bonds "because I need more income" is suicide because it opens the floor through which you will fall and drown if inflation kicks in. People look a bond and salivate at the yield thinking "oh if I hold to maturity or do nothing, then if it is 5% I will get 5% and that is what I need" and it ends there. The problem is that the risks you take for that 5% whilst assuming the unlikely is impossible, or not even considering it, are great. While people are turned off by the ups and downs of the stock market, in reality any bond with duration >1 year has potential for huge losses. Look at how even intermediate bonds did in 1973-1981... yikes!

3. The way you hedge this and make a more efficient portfolio is with commodities. Take 5% of your total AA and using it as equity put it in commodities. If you were 70% stocks, now you'd be 65 stocks, 5% commodities, and 30% fixed. This will hedge and insure you against losses in the face of both rising and falling rates if you slightly increase the duration of your bonds. In other words, you might go 3-5 years tops w/ your treasuries, and 5-7 years average duration with your munis (because yield curve is steeper).

It works like this: if rates rise, your intermediate bonds will lose value. However, commoditeis are highly volatile, and you don't need a lot of them to diversify due to their surge effects. Rates rise, commodities will rise with them. If rates fall, such as long economic prosperity, but especially during crises like 2008, you will have a much larger potential for capital appreciation on the part of your intermediate bonds which will rise in value. In this respect, you can slightly increase the duration and pocket the term premium.

4. Treasuries and high grade versions thereof are still the best diversifiers around and the least correlated. Sure, Germany looks better economically than the USA, I agree. But when you add the volatility of a foreign currency, it wipes out any benefit. You can hedge, but most small investors have access to fixed income that pays higher rates while still maintaining the quality (I bonds anyone, have you seen the yields despite 0% coupon?), FDIC insured CD's of crappy banks with low early withdrawal penalties, or small lot (5-10,000 face value) municipals of high quality that are highly illiquid and sport a liquidity premium in the form of 50-100 basis point yield over treasuries, even the pre-refunded bonds.

And through all this, corporates and GNMA's will not hedge anything. They have equity risk, and are highly complex investment vehicles with a lot of hidden land mines, call risks, sinking funds etc. Remember that any investment vehicle that posesses complexity will use that complexity to favor the issuer, not the buyer.

Lastly, with regards to possible credit risk of the US Treasuries, GNMA's and corporates will do even worse. Put it this way: if the USA defaults, its currency will be devalued. Any fixed income asset will take minimum face value losses equal to the amount of devaluation that occurred in the default. If they have to issue red dollars that are worth 25%, your 1 million in corporates will only be worth 250k. Therefore, any investment denominated in a currency that is not hard (commodities, real estate, precious metals, human capital) cannot by default have a credit rating better than its backing sovereign debt. Even if an entity were to be more financially well off than its overlying government, because whatever happens to that government's currency will happen to all underlying entities basically passes on that risk.

Take care and thanks for the lively discussion!
1. Do not confuse strategy with outcome | 2. Those who fail to plan plan to fail | 3. Do not assume the unlikely is impossible, and | 4. Be ready to deal with the consequences if you do.
Post Reply