Partial shift from bond funds to CD ladder

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RickBoglehead
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Partial shift from bond funds to CD ladder

Post by RickBoglehead »

As I approached 60, I started to shift more of my portfolio to bonds. Got it to 67/33 (with another 2% cash) as of the end of the year.

I've been a bit unhappy with the returns on these funds (Fidelity Total Bond - FSITX (24.9%), Vanguard Total Bond - VBTLX (19.4%), Vanguard Short-Term - VFSUX (13%), Intermediate-Term - VFIDX (23.6%), and Long-Term Investment Grade - VWESX (8.5%), and Vanguard Total International Bond - VTABX(10.3%), with a tiny holding in a TVA bond that has a great rate (0.3%). Percentages of total bond holdings after each as of 12/31/17.

I was also not happy with Fidelity overall, so recently moved nearly all my assets from there. In the process, I liquidated nearly all of the Fidelity Total Bond fund for the main reason that its return was below Vanguard's, and if nothing else I could simply put it in the Vanguard Total Bond Fund.

I've looked at CDs, and can get 2.1 for 12 months, 2.35% for 18 months, and 2.65% for 24 months. Not a dime of these funds will be needed for at least 5 or more years. I'm considering roughly 1/3 in each bucket.

Based on the current returns for at least the Total Bond Fund and the ST Investment Grade, I see no reason not to make this move to CDs for most of the Fidelity money (I did do my annual "toss a bit more into Primecap..."). In 12 months when that hunk matures, I'll reassess, again at 18 months, and so on. Anyone disagree with this logic?

I'm further considering shifting totally out of the Long Term Investment Grade and moving that money into either CDs or Short-Term Investment Grade and would be interested in any thoughts. I probably wouldn't go more than 2 years in the face of rising rates. Thoughts?
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Tyler Aspect
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Re: Partial shift from bond funds to CD ladder

Post by Tyler Aspect »

Maybe we all had a case of loss aversion here. If you take the long term view, then net asset loss will be made up by having higher dividends 6 years consecutively for the intermediate term duration.

If you make the move to short term, then that is a temporary move. You still have to move back to the intermediate term when yield stops climbing. Easy to see after the fact, but not so easy to tell as it happens.
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trueblueky
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Re: Partial shift from bond funds to CD ladder

Post by trueblueky »

Depending on your state tax situation, Treasuries of the same term may be better for you than CDs.
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Re: Partial shift from bond funds to CD ladder

Post by onourway »

If your need to withdraw the money is matched to the duration of the fund, you should be indifferent to fluctuations in NAV. Average duration of the Vanguard Total Bond Fund is currently 6.1 years. If you have a need for money in 5 years, you should keep a balance of Total Bond and Short Term Bond such that your duration is approximately equal to your need. In practice I suspect you don't have a specific need for the entirety of your assets held in bonds in exactly 5 years. As such, you should hold the Total Bond Fund and ignore NAV.

Note that current SEC Yield for VBTLX is 2.95%.
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Re: Partial shift from bond funds to CD ladder

Post by RickBoglehead »

trueblueky wrote: Thu Apr 12, 2018 1:39 pm Depending on your state tax situation, Treasuries of the same term may be better for you than CDs.
4.25%, so nope.
onourway wrote: Thu Apr 12, 2018 1:45 pm If your need to withdraw the money is matched to the duration of the fund, you should be indifferent to fluctuations in NAV. Average duration of the Vanguard Total Bond Fund is currently 6.1 years. If you have a need for money in 5 years, you should keep a balance of Total Bond and Short Term Bond such that your duration is approximately equal to your need. In practice I suspect you don't have a specific need for the entirety of your assets held in bonds in exactly 5 years. As such, you should hold the Total Bond Fund and ignore NAV.

Note that current SEC Yield for VBTLX is 2.95%.

I don't anticipate needing the funds for a very long time, because I'll be using the taxable side of my portfolio first, and the retirement side is 90% ROTH. I'm looking at returns for 1, 3, 5 and 10 years, not NAV. Total bond fund had a YTD return of -1.49% as of Tuesday. In my thinking, it's going to quite a while of buying new bonds as old bonds mature before that return gets anywhere near 2.65%.
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Re: Partial shift from bond funds to CD ladder

Post by mega317 »

RickBoglehead wrote: Thu Apr 12, 2018 1:51 pm
trueblueky wrote: Thu Apr 12, 2018 1:39 pm Depending on your state tax situation, Treasuries of the same term may be better for you than CDs.
4.25%, so nope.
Well the 52-week is at 2.09% which, accounting for your state tax, beats 2.1%.

I think the points to be made here are that #1 it is totally reasonable to move your fixed income to CDs and/or shorten duration, and #2 you can't outsmart the rising interest rates. If you move to short term now you will get lower returns over any long-enough holding period.
https://www.bogleheads.org/forum/viewtopic.php?t=6212
Dandy
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Re: Partial shift from bond funds to CD ladder

Post by Dandy »

It is our first experience with rising interest rates in quite a long time. Not used to seeing "safe" bond funds have even a modest negative return even though we knew that was what happens when interest rates rise.

I see no problem with using a short term CD ladder in place for some of your fixed income/Total bond investments. I wouldn't get carried away -- those CDs will, if they are brokerage CDs, show a loss as interest rates rise also. The basic difference is that you know when the CDs will reach full original investment.

You might consider investing the CD interest back into Total Bond Fund since you will be likely buying the fund at a slight lower NAV. Total Bond is close to a set it and forget it investment. I like more diversity in fixed income, especially in a rising rate environment. Some short term bond funds, some TIPS/TIPS funds, some FDIC products etc. Not much of a hassle if you don't get too focused on trying to micro re balance.
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Re: Partial shift from bond funds to CD ladder

Post by RickBoglehead »

Back in the early 80s I was getting 15%+ on bank CDs and moving money every 3 months for teaser rates.
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Re: Partial shift from bond funds to CD ladder

Post by CWhea1775 »

I frankly don't understand the math of the argument for investing a bunch of cash in bond funds as interest rates rise vs. CDs as a short - medium term strategy. I know that this is a form of market timing, but it appears to be as close to a sure thing in that regard as you are going to get, with a very low risk - if rates go down or stay stable instead of going up - what have you lost? I am in the same boat as OP, rolled a retirement plan into a Fidelity IRA, large amount of cash, desired AA of 45/55, but I can't bring myself to invest in a bond fund that is pretty much guaranteed to lose 5% or so in NAV if the Fed does what they say they will do. Please explain why, if these admittedly impossible to guarantee assumptions come true, it is not "better" to invest in 1 - 2 year laddered CDs and then gradually shift to bond funds as these mature? Won't the 5% (+/-) increase in preserved capital from not riding the funds lower, now earning 2% or so in CD's, gather most of the benefit of increasing rates in the bond funds through investing gradually at a lower NAV? What am I missing?
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Re: Partial shift from bond funds to CD ladder

Post by visualguy »

Tyler Aspect wrote: Thu Apr 12, 2018 1:33 pm Maybe we all had a case of loss aversion here. If you take the long term view, then net asset loss will be made up by having higher dividends 6 years consecutively for the intermediate term duration.
I read a study showing that you may need to keep the bond fund for almost twice the duration to recoup your principal plus interest based on the original yield.

CDs are most likely the better way to go in the foreseeable future. Even if bond funds do better unexpectedly, it can't be by much.
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Re: Partial shift from bond funds to CD ladder

Post by Tyler Aspect »

visualguy wrote: Thu Apr 12, 2018 3:01 pm
Tyler Aspect wrote: Thu Apr 12, 2018 1:33 pm Maybe we all had a case of loss aversion here. If you take the long term view, then net asset loss will be made up by having higher dividends 6 years consecutively for the intermediate term duration.
I read a study showing that you may need to keep the bond fund for almost twice the duration to recoup your principal plus interest based on the original yield.

CDs are most likely the better way to go in the foreseeable future. Even if bond funds do better unexpectedly, it can't be by much.
Whether the bond fund is situated in a taxable account or tax deferred account could be a factor. If your dividends are taxed, then obviously you have to wait longer for the break-even point. Another thing is if the yield increase is one time versus continuous. Each instance of yield increase is associated with its own waiting interval.
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Re: Partial shift from bond funds to CD ladder

Post by jvini »

Remember a year ago when rising rates were a certainty and moving out of bond funds like BND into CDs seemed like a no brainer? Today rates have fallen and continue to fall and BND is up about 8% so far this year. It is impossible to predict or time the market. I moved some money back then and my gains are less because of it. Fortunately it wasn't much and I kept most of my BND. Now that rates have fallen so much, I'm tempted to move into CDs again because I've gotten good returns from BND and it can only fall from here over the next year or so. But I won't. 🙂
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Re: Partial shift from bond funds to CD ladder

Post by aristotelian »

CWhea1775 wrote: Thu Apr 12, 2018 2:49 pm I frankly don't understand the math of the argument for investing a bunch of cash in bond funds as interest rates rise vs. CDs as a short - medium term strategy. I know that this is a form of market timing, but it appears to be as close to a sure thing in that regard as you are going to get, with a very low risk - if rates go down or stay stable instead of going up - what have you lost? I am in the same boat as OP, rolled a retirement plan into a Fidelity IRA, large amount of cash, desired AA of 45/55, but I can't bring myself to invest in a bond fund that is pretty much guaranteed to lose 5% or so in NAV if the Fed does what they say they will do. Please explain why, if these admittedly impossible to guarantee assumptions come true, it is not "better" to invest in 1 - 2 year laddered CDs and then gradually shift to bond funds as these mature? Won't the 5% (+/-) increase in preserved capital from not riding the funds lower, now earning 2% or so in CD's, gather most of the benefit of increasing rates in the bond funds through investing gradually at a lower NAV? What am I missing?
Haven't you heard? The Fed is cutting rates. Now the big fear is negative interest rates.

Either way, aside from the spread between bonds and cd, there is no difference in total return between an index fund and a ladder you create. Indeed, an index fund is itself a ladder if individual bonds that are constantly maturing and being reinvested. If you prefer individual bonds, go for it, but don't expect any higher return in over time. If interest rates increase, you will not lose any no on principal but I'm you will be in locked in to lower rates with no net benefit.
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Re: Partial shift from bond funds to CD ladder

Post by 22twain »

aristotelian wrote: Sat Sep 21, 2019 7:40 amHaven't you heard? The Fed is cutting rates.
Look at the date on his post. :wink:

(I've been bitten by this myself. :annoyed )
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Re: Partial shift from bond funds to CD ladder

Post by Willmunny »

To me, getting out of bond funds and into CDs makes perfect sense unless one is constrained by the choices of a particular retirement plan. Yes, we don't know if interest rates will rise or fall (even going negative), so I will grant for the sake of argument that there is a equal chance of capital gain as there is loss of principal in a bond fund now. However, that is more risk than I want to take. My fixed income is for capital and purchasing power preservation, so I will gladly tradeoff the capital gain potential of a bond fund for the capital preservation of a CD.

Bond funds look great with back testing due to the 30 year bond bull market started in the early 1980s when Paul Volcker raised the fed funds rate to a record high to combat inflation. Investors got the benefit of a 30 year tailwind in bonds. Given my age, I was not able to benefit from that. I am afraid my generation must confront a "new normal" when it comes to the expected return on fixed income. I, for one, just try to: (1) take no (or virtually no) credit risk; (2) minimize interest rate risk; and (3) keep up with, or slightly beat, inflation. CDs, particularly those directly owned at a bank or credit union with a reasonable early withdrawal penalty if rates or inflation rises sharply, meet those goals. The risk, then, is all on the equity side.
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