Bond Laddering with Zero Coupons?

Have a question about your personal investments? No matter how simple or complex, you can ask it here.
Post Reply
User avatar
Topic Author
lucky7
Posts: 358
Joined: Tue Mar 13, 2007 5:51 pm

Bond Laddering with Zero Coupons?

Post by lucky7 »

There is much discussion about bond laddering via buying Treasury Bonds or TIPS bonds in constructing a ladder, but never see mention of zero coupons. Is there a reason this is not favored? Guess I like zeros for was easy to utilize in piecemeal method for kids college. Maybe just like for more familiar from using in past. Currently scratching my head as to how will utilize new monies to construct the beginnings of a bond ladder for a retirement perhaps in 10-15 years held in large part within taxable account. (Never feel comfortable switching around large amount of money, even rebalance by directing new funds.) One thing I learned from this environment is that I do not want to go through this again when I am sixty or older without core of essential money in Treasuries of one variety or another. Any thoughts greatly appreciated.

Bob
Scotty, beam me up.
muddlehead
Posts: 276
Joined: Mon Sep 22, 2008 2:03 pm

Post by muddlehead »

rates are so low - better off accomplishing same date certain maturity goal with cd's.
User avatar
HueyLD
Posts: 7855
Joined: Mon Jan 14, 2008 10:30 am

Post by HueyLD »

The current STRIPS yields are low both in absolute and relative terms. It looks like the current YTM for a 2/15/2018 STRIPS is about 4.4%, or about 0.5% above the plain vanilla Treasury security maturing on the same date. Simply not enough yield/spread to put in a taxable account, especially considering you will have to pay taxes on "phantom" interest that you will not receive until maturity. Being a long-term zero coupon security also cause it to have above average price volatility due to interest rate risk.

In Larry Swedroe's Winning Bond Strategy book, he said that because of the above negatives and a less than average liquidity, only buy-and-hold investors should even consider them. And I think even if you are willing and able to hold them to maturity, the current yields are simply not worth it.
User avatar
Topic Author
lucky7
Posts: 358
Joined: Tue Mar 13, 2007 5:51 pm

Realize today poor time for long term Treasury.

Post by lucky7 »

Realize today poor time for long term Treasury. But otherwise seems another legitimate way to ladder?
Scotty, beam me up.
User avatar
ruralavalon
Posts: 19747
Joined: Sat Feb 02, 2008 10:29 am
Location: Illinois

treasury strips

Post by ruralavalon »

I have done this. A number of years ago I bought teasury strips in a ladder, for each maturity year buying the net of expected retirement expenses minus expected social security (with a 3% increase each year for an inflation factor).

I have stopped adding to the ladder, because (for one reason) the discount off of face value is not now steep enough to make this a reasonable approach.

I have often wondered why this approach to a retirement "income" is never mentioned here, at least as something to consider in a different interest rate environment.
User avatar
HueyLD
Posts: 7855
Joined: Mon Jan 14, 2008 10:30 am

Re: treasury strips

Post by HueyLD »

ruralavalon wrote:I have often wondered why this approach to a retirement "income" is never mentioned here, at least as something to consider in a different interest rate environment.
Here is my guess on why STRIPS have not been discussed here for retirement income, especially in your taxable accounts.

Unless you have no or very little tax liability, the cashflow problem can be an issue in retirement because you have to pay tax now but get paid later or much later. It is one of those issues that affect each person differently depending on your net worth, liquidity, tax bracket, spending patterns, etc.. Also, TIPS are the new and exciting product, and naturally the new kids get more attention.
User avatar
Topic Author
lucky7
Posts: 358
Joined: Tue Mar 13, 2007 5:51 pm

Huey

Post by lucky7 »

But TIP bonds in taxable account, face taxes on interest plus on the phantom income if inflation adjusting principal.

(P.S. Was reading Thau's book on bonds, which is several years old, in store ,and it was suggesting there would be zeros with TIPS???)


Bob
Scotty, beam me up.
User avatar
HueyLD
Posts: 7855
Joined: Mon Jan 14, 2008 10:30 am

Post by HueyLD »

But TIP bonds in taxable account, face taxes on interest plus on the phantom income if inflation adjusting principal.
Correct. That's why TIPS and STRIPS are usually recommended for tax-advantaged accounts like IRA, 401(k), etc. But for those who have mostly taxable accounts, awareness of the tax issues is very important for cashflow planning.

By the way, you do get semiannual interest payments for TIPS vs. getting no interest payment until maturity for STRIPS. So, TIPS are better than STRIPS for cashflow.
User avatar
Topic Author
lucky7
Posts: 358
Joined: Tue Mar 13, 2007 5:51 pm

Good point.

Post by lucky7 »

Good point.
Scotty, beam me up.
Post Reply