Substituting bond with RE/utility ETFs?

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wiserabbit
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Substituting bond with RE/utility ETFs?

Post by wiserabbit »

Hi everyone,

with interest rates down, total bond market yield is unlikely to cover the inflation rate. My boglehead portfolio is (roughly) 80/20 VT/BND and I consider replacing BND with RE/utility ETFs such as VNQ and VPU.

I do not plan to touch my savings for the upcoming 20+ years, so RE and utility market swings of 20-30% do not bother me too much. What bothers me, however, is if real estate and utility sectors are here to stay (and grow at least in pace with inflation) for decades. Which I believe is true.

Does switching to VT/VNQ+VPU portfolio make sense to you like the long term plan? Or should I stick with BND even though it yields a negative return after inflation?

Thank you!
dbr
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Re: Substituting bond with RE/utility ETFs?

Post by dbr »

If you want to reassess your original asset allocation and honestly agree 80/20 was a mistake and a better choice would have been 100/0, then it would make sense to replace bonds with stocks. If that is the case then 100% VTI probably makes more sense than trying to imagine unrealistic things such as that real estate and utilities are some sort of investment in bonds.

I think more likely you will come to think that 80/20 even when bonds have poor returns is what you wanted all along.
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Re: Substituting bond with RE/utility ETFs?

Post by jason2459 »

Vnq/vpu are not equity substitutes as they are equities. Equities are not bond substitutes as they are completely different asset classes.

If you want to be 100% equities (or near it) and looking to diversify a total stock market index then utilities do have low correlation for good or bad. REITs have historically been used to diversify a portfolio and a major part of our economy. Again, for good or bad. Both are categories/sectors of equities. We don't know how they will perform in the future or what regulations may impact them.
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Re: Substituting bond with RE/utility ETFs?

Post by Cpadave »

I have a small allocation of my investable assets in utilities (3%). I count this as equity. Right or wrong, during market downtown I feel a little more comfortable. But I know it is equity and a sector ( which can have added risk).
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Re: Substituting bond with RE/utility ETFs?

Post by livesoft »

I think the OP's ideas are just plain wrong. I think RE/utility ETFs have a pretty strong demographic, cultural, and social headwind blowing against them.
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wiserabbit
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Re: Substituting bond with RE/utility ETFs?

Post by wiserabbit »

Thank you for comments. I may be way off with my considerations, that’s why I seek advice at this forum.

I choose 80/20, assuming that bonds will keep up with the inflation. As it’s not the case anymore, I’m looking for the alternative. If no alternative is available, I will probably switch to 100/0.
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Re: Substituting bond with RE/utility ETFs?

Post by abuss368 »

I would not substitute bonds for REITs and Utilities. REITs and Utilities are stocks and will increase the potential volatility to the portfolio.

Bonds provide ballast to a portfolio and dry powder to rebalance during market downturns.
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Re: Substituting bond with RE/utility ETFs?

Post by dbr »

wiserabbit wrote: Mon Sep 14, 2020 1:10 pm Thank you for comments. I may be way off with my considerations, that’s why I seek advice at this forum.

I choose 80/20, assuming that bonds will keep up with the inflation. As it’s not the case anymore, I’m looking for the alternative. If no alternative is available, I will probably switch to 100/0.
There is no reason to assume bonds will keep up with inflation. The concern would be what is the return of the total portfolio. At 80% stocks whether or not bonds keep up with inflation doesn't matter enough to worry about. 20% bonds does reduce the volatility some. Also returns don't stay in one place for long. Bond returns today don't say much about how you would invest for the long term, which is what anyone at 80-100 stocks is doing.

All that said, there is not a lot of difference between 100/0 and 80/20 so maybe you really do want 100/0. If you do that be sure you are comfortable with the risk of being all stocks. Just as a starter it is wise to consider if losing half your investment at some point in time would bother you enough that you would sell out at a permanent loss. If so maybe 70/30 is wiser, but again low returns in bonds don't affect that situation if all stocks is more risk than you can stand.
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Re: Substituting bond with RE/utility ETFs?

Post by alex_686 »

REITs are a bad choice. They have the same level of risk and returns as equity in general. I overweight REITs because I believe that they will have a low correlation with large cap equities and therefore offers a modest reduction in risk via diversification. This is debatable. Direct holdings offer slightly better options, but this offers a whole different can of worms.

Utilities have traditionally been suggested as a lower risk equity. I am not sure about this. Are they? Have you torn apart the latest annual reports? There is risk here.

2 suggestions.

First, risk has increased in almost every asset class. There is no safe harbor. Recognize this and prepare.

Second, take a look at the low-bata (low volatility) factor and funds. These select companies that either act as low- risk securities or have balance sheets that suggest that they are. This is better than relying of tradition.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
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Re: Substituting bond with RE/utility ETFs?

Post by 92irish »

To the OP - if you have a 20+ year horizon and can handle some volatility, I think you are on the right path to consider 100/0 (stocks/bonds). If you don't need the money in a year or two, bonds are just not going to give you a strong long term returns. I have upped my equity allocation a couple months ago with the same thought process. I have been for years and will continue to buy iBonds for safety and emergency purposes. It is sad when a zero% fixed rate return + CPI is the best deal in town.
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Re: Substituting bond with RE/utility ETFs?

Post by arcticpineapplecorp. »

stocks are not bonds.

vnq and vpu are investments in stocks.

so you'd be going from 80/20 to 100/0.

nothing wrong with that provided you understand the risks of an all stock portfolio.
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Re: Substituting bond with RE/utility ETFs?

Post by luckyducky99 »

wiserabbit wrote: Mon Sep 14, 2020 10:07 am so RE and utility market swings of 20-30% do not bother me too much.
How do you feel about 70% drawdowns? Look at REITs during the GFC.

If you truly don't care about volatility, then just go 100/0 without any sector bias.
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Re: Substituting bond with RE/utility ETFs?

Post by patrick013 »

wiserabbit wrote: Mon Sep 14, 2020 10:07 am
I do not plan to touch my savings for the upcoming 20+ years, so RE and utility market swings of 20-30% do not bother me too much. What bothers me, however, is if real estate and utility sectors are here to stay (and grow at least in pace with inflation) for decades. Which I believe is true.

If you want a stable, defensive, domestic necessity which yields
more than bonds tilt to utilities.

Health care is likely to continue as a growth tilt.

I'm cautious with RE also but a health care REIT could be a good
tilt in a high population area. VNQ is well diversified.

The only stocks with high prices appear to be Tech, and several
stocks in the DOW index were recently replaced. For decades
large caps appear on scale for future returns after COVID.
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Re: Substituting bond with RE/utility ETFs?

Post by 000 »

I have a tilt to hard asset REITs but I don't hold them for income and definitely don't view them as a bond replacement.

Although REITs and Utilities are arguably somewhat more different compared to the rest of the stuff in a stock index than the rest of the stuff is compared to itself, one should not hold them if one cannot handle stock-level volatility.
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Re: Substituting bond with RE/utility ETFs?

Post by abuss368 »

David Swensen, Yale University CIO, recommends approximately 30% of equity to REITs.
John C. Bogle: “Simplicity is the master key to financial success."
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patrick013
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Re: Substituting bond with RE/utility ETFs?

Post by patrick013 »

One of Bogle's first books displayed a 5 fund portfolio with
one fund a 10-20% tilt based on investor preference. He
used health care if I remember right.

I wished I bought utilities a few years back when it yielded
4%. Dividends there have increased dollar wise since then.

Some would prefer RE or Tech so it's really up to investor
preference what to tilt if any.

Some will recover more than others after COVID.
age in bonds, buy-and-hold, 10 year business cycle
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Re: Substituting bond with RE/utility ETFs?

Post by Valuethinker »

alex_686 wrote: Mon Sep 14, 2020 3:31 pm REITs are a bad choice. They have the same level of risk and returns as equity in general. I overweight REITs because I believe that they will have a low correlation with large cap equities and therefore offers a modest reduction in risk via diversification. This is debatable. Direct holdings offer slightly better options, but this offers a whole different can of worms.

Utilities have traditionally been suggested as a lower risk equity. I am not sure about this. Are they? Have you torn apart the latest annual reports? There is risk here.

2 suggestions.

First, risk has increased in almost every asset class. There is no safe harbor. Recognize this and prepare.

Second, take a look at the low-bata (low volatility) factor and funds. These select companies that either act as low- risk securities or have balance sheets that suggest that they are. This is better than relying of tradition.
Low volatility stocks definitely have a better risk profile than sector bets.

All over the economy there are steady eddy companies. Food retailers. Consumer goods companies. Etc.

For example I would include Berkshire Hathaway in this. A collection of rel stable return businesses (plus a big position in Apple).

Selling out of Goldman Sachs really surprised me though. Particularly as their business model is evolving towards retail FS & providing trading facilitation and systems.
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Re: Substituting bond with RE/utility ETFs?

Post by Northern Flicker »

VNQ and VPU have not looked like bond substitutes this year to me:

http://quotes.morningstar.com/chart/fun ... A%5B%5D%7D

And they didn't behave like bonds in 2008/2009 either:

http://quotes.morningstar.com/chart/fun ... A%5B%5D%7D

What is the basis for considering them to be a bond substitute?
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wiserabbit
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Re: Substituting bond with RE/utility ETFs?

Post by wiserabbit »

I understand they're not bonds, I just want to get rid of BND.

With all portfolio stabilization/rebalancing considerations, I do not feel good with keeping 20% of my portfolio in something equaling to a guaranteed loss (after inflation).
Northern Flicker wrote: Tue Sep 15, 2020 7:08 pm VNQ and VPU have not looked like bond substitutes this year to me:

http://quotes.morningstar.com/chart/fun ... A%5B%5D%7D

And they didn't behave like bonds in 2008/2009 either:

http://quotes.morningstar.com/chart/fun ... A%5B%5D%7D

What is the basis for considering them to be a bond substitute?
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Re: Substituting bond with RE/utility ETFs?

Post by rkhusky »

wiserabbit wrote: Wed Sep 16, 2020 4:04 am I understand they're not bonds, I just want to get rid of BND.

With all portfolio stabilization/rebalancing considerations, I do not feel good with keeping 20% of my portfolio in something equaling to a guaranteed loss (after inflation).
Quit looking at portions of your portfolio and look at the performance of the portfolio as a whole. Perhaps it would be best if you were in a Target Retirement or LifeStrategy or some other balanced fund.

You don't look at the performance of individual stocks in VT, but at the overall performance, right?.
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Re: Substituting bond with RE/utility ETFs?

Post by JoMoney »

wiserabbit wrote: Mon Sep 14, 2020 1:10 pm Thank you for comments. I may be way off with my considerations, that’s why I seek advice at this forum.

I choose 80/20, assuming that bonds will keep up with the inflation. As it’s not the case anymore, I’m looking for the alternative. If no alternative is available, I will probably switch to 100/0.
I don't anticipate good returns from bonds, but you might be jumping the gun with declaring that BND isn't keeping up with inflation anymore.
It looks to me like it has
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Re: Substituting bond with RE/utility ETFs?

Post by 000 »

I think Series I savings bonds are still at 0% real.
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Re: Substituting bond with RE/utility ETFs?

Post by aristotelian »

wiserabbit wrote: Mon Sep 14, 2020 1:10 pm I choose 80/20, assuming that bonds will keep up with the inflation. As it’s not the case anymore, I’m looking for the alternative. If no alternative is available, I will probably switch to 100/0.
I don't see how anything has changed. Nominal yields are lower, but so are inflation expectations. Bonds have always had inflation risk. In a low rate environment, the price of safety is higher. But that also pushes up prices of equities. I would be concerned that you would be taking increased risk at exactly the wrong time when expected returns from risk assets are lower.

If you wish to overweight RE/Utility as part of your equity allocation, that may not be a bad idea although you would not increase your expected return.
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Re: Substituting bond with RE/utility ETFs?

Post by boglemymind314 »

I've been thinking something similar to the OP. Some of the responses here have simply pointed out that utilities are stocks, which I don't think answers the question: we all know that utilities are stocks. The question is really what their return and volatility look like. It's not crazy nor preposterous to suppose that in a downturn, the S&P will do much worse than a public utility. Spending at Apple and electricity usage will probably both be down during a recession but there's an intelligent hypothesis to be investigated that spending on iPhones very well might fall much further during a recession than electricity usage. To put the same thing another way, consumers are a lot more likely to slow their spending on Amazon than to literally turn off the lights to save money. If the utility's shares (which are, of course, equities) have a somewhat bond-like return, then there might be an argument to using the utility's shares as part of a diversified portfolio in place of bonds, if bonds are expected to produce a terribly anemic return.

The argument for bonds, after all, is that in a downturn they are not supposed to fall as sharply or as far as stocks. If utilities behave in a similar manner then they might serve a similar function. Complicating all this is the price appreciation of bonds, which I think is under-discussed: I have a hard time imagining anybody who would really be content with a 1% return per year over the next 10 years (i.e. the yield on Treasuries) but as interest rates fall, every tiny movement of interest rates has a greater and greater effect on the price of bonds, most importantly the longest-term bonds. VUSTX (long-term Treasuries) are up by more than 20% so far this year. That's obviously not the coupon rate but it's the return if you bought VUSTX on January 1 and sold it now. The reverse is also true: a tiny increase in rates would have an outsized downward effect on the price of bonds. The nearer the risk-free rate is to zero, the more each rate movement affects bond prices. But since we're already very near zero, that means bonds are currently at risk of stock-like swings. I think most or many bond investors would be surprised to remember they could lose 10-20% of their investment in a few months. See, e.g. early 2016, when a bond fund - which is commonly talked about as if it shouldn't be subject to sudden drops - fell sharply by about 15%.

Btw, there is a very important difference between bonds and utilities and REITs that I haven't seen touched on here, which is taxation. Bond interest is ordinary income (some bond interest enjoys special tax treatment but in theory those bonds should be yielding less than equivalent taxable bonds to account for the difference in tax treatment, otherwise there would be a persistent arbitrage opportunity). But utilities pay out dividends, which is taxed like long-term capital gains for most investors. If the data show that utilities fall less sharply than stocks in a bear market but pay out 3-4% nominal yield at long-term capital gains rates, then I could definitely imagine grouping utilities as a kind of middle-ground on the spectrum from stocks to bonds.

To answer the OP's original question (because I did this math yesterday) if you look at VTSAX and VPU, just for last spring and the 2008-era crisis, I think you'll find that VTSAX fell from peak to trough by about 35% last spring and VPU also fell by about 35%. In 2008, the difference was a little greater: peak to trough fall for VPU was more like 44% and VTSAX was about 50%. I think the theory that utilities should fare comparatively well during a recession makes sense but the actual data from the past two bear markets does not really bear that out. Of course, future recessions/bear markets might not look like previous ones, but they probably will. In the past two bear markets, utilities have behaved very much like the overall S&P 500. Worth investigating, definitely, but the data seems to show that utilities do in fact fall like the stock market overall during bear markets.

I haven't done a similar analysis for REITs, which would rapidly get more complicated because of their weird tax treatment.
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Re: Substituting bond with RE/utility ETFs?

Post by ruralavalon »

wiserabbit wrote: Mon Sep 14, 2020 10:07 am Hi everyone,

with interest rates down, total bond market yield is unlikely to cover the inflation rate. My boglehead portfolio is (roughly) 80/20 VT/BND and I consider replacing BND with RE/utility ETFs such as VNQ and VPU.

I do not plan to touch my savings for the upcoming 20+ years, so RE and utility market swings of 20-30% do not bother me too much. What bothers me, however, is if real estate and utility sectors are here to stay (and grow at least in pace with inflation) for decades. Which I believe is true.

Does switching to VT/VNQ+VPU portfolio make sense to you like the long term plan? Or should I stick with BND even though it yields a negative return after inflation?

Thank you!
Vanguard Real Estate ETF (VNQ) and Vanguard Utilities ETF (VPU) are not substitutes for a bond fund. They are very volatile and are highly correlated to the U.S. stock market, unlike a bond fund.

I think that's a bad idea for a long-term plan. I suggest sticking with Vanguard Total Bond Market ETF (BND).

Current Sec Yield on Vanguard Total Bond Market ETF (BND) = 1.19%. Current Annual inflation for the 12 months ending in August 2020 is 1.31% UP from 0.99% in July. Net loss is tiny.
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Re: Substituting bond with RE/utility ETFs?

Post by 000 »

boglemymind314 wrote: Wed Sep 16, 2020 10:25 am I've been thinking something similar to the OP. Some of the responses here have simply pointed out that utilities are stocks, which I don't think answers the question: we all know that utilities are stocks. The question is really what their return and volatility look like. It's not crazy nor preposterous to suppose that in a downturn, the S&P will do much worse than a public utility. Spending at Apple and electricity usage will probably both be down during a recession but there's an intelligent hypothesis to be investigated that spending on iPhones very well might fall much further during a recession than electricity usage. To put the same thing another way, consumers are a lot more likely to slow their spending on Amazon than to literally turn off the lights to save money. If the utility's shares (which are, of course, equities) have a somewhat bond-like return, then there might be an argument to using the utility's shares as part of a diversified portfolio in place of bonds, if bonds are expected to produce a terribly anemic return.

The argument for bonds, after all, is that in a downturn they are not supposed to fall as sharply or as far as stocks. If utilities behave in a similar manner then they might serve a similar function. Complicating all this is the price appreciation of bonds, which I think is under-discussed: I have a hard time imagining anybody who would really be content with a 1% return per year over the next 10 years (i.e. the yield on Treasuries) but as interest rates fall, every tiny movement of interest rates has a greater and greater effect on the price of bonds, most importantly the longest-term bonds. VUSTX (long-term Treasuries) are up by more than 20% so far this year. That's obviously not the coupon rate but it's the return if you bought VUSTX on January 1 and sold it now. The reverse is also true: a tiny increase in rates would have an outsized downward effect on the price of bonds. The nearer the risk-free rate is to zero, the more each rate movement affects bond prices. But since we're already very near zero, that means bonds are currently at risk of stock-like swings. I think most or many bond investors would be surprised to remember they could lose 10-20% of their investment in a few months. See, e.g. early 2016, when a bond fund - which is commonly talked about as if it shouldn't be subject to sudden drops - fell sharply by about 15%.

Btw, there is a very important difference between bonds and utilities and REITs that I haven't seen touched on here, which is taxation. Bond interest is ordinary income (some bond interest enjoys special tax treatment but in theory those bonds should be yielding less than equivalent taxable bonds to account for the difference in tax treatment, otherwise there would be a persistent arbitrage opportunity). But utilities pay out dividends, which is taxed like long-term capital gains for most investors. If the data show that utilities fall less sharply than stocks in a bear market but pay out 3-4% nominal yield at long-term capital gains rates, then I could definitely imagine grouping utilities as a kind of middle-ground on the spectrum from stocks to bonds.

To answer the OP's original question (because I did this math yesterday) if you look at VTSAX and VPU, just for last spring and the 2008-era crisis, I think you'll find that VTSAX fell from peak to trough by about 35% last spring and VPU also fell by about 35%. In 2008, the difference was a little greater: peak to trough fall for VPU was more like 44% and VTSAX was about 50%. I think the theory that utilities should fare comparatively well during a recession makes sense but the actual data from the past two bear markets does not really bear that out. Of course, future recessions/bear markets might not look like previous ones, but they probably will. In the past two bear markets, utilities have behaved very much like the overall S&P 500. Worth investigating, definitely, but the data seems to show that utilities do in fact fall like the stock market overall during bear markets.

I haven't done a similar analysis for REITs, which would rapidly get more complicated because of their weird tax treatment.
The problem is thinking that either Utilities or REITs are safer than other stocks. Both Utilities and REITs are at risk of having their business models disrupted just like any other business. Examples: New power delivery techniques (think solar panels on everyone's home) could devastate electrical utilities. Flight from urban areas could devastate the urban-heavy holdings in the average REIT fund.

Now, I will say that I hold some hard asset REITs because I think their valuations are more disconnected from the otherwise overvalued market and I expect them to retain some value even during a serious economic decline. But I do not think they in and of themselves are safer.
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Re: Substituting bond with RE/utility ETFs?

Post by ChinchillaWhiplash »

You could go with something like EMB (emerging market bonds ETF). Good yield with correlation between US equities and
US bond fund. Drawdowns between the 2 equity classes also.
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Re: Substituting bond with RE/utility ETFs?

Post by Dude2 »

boglemymind314 wrote: Wed Sep 16, 2020 10:25 am I've been thinking something similar to the OP. Some of the responses here have simply pointed out that utilities are stocks, which I don't think answers the question: we all know that utilities are stocks. The question is really what their return and volatility look like.
Nisiprius had a nice chart in this other thread of a similar topic:
viewtopic.php?p=5465613#p5465613
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Re: Substituting bond with RE/utility ETFs?

Post by patrick013 »

Dude2 wrote: Thu Sep 17, 2020 4:55 am
boglemymind314 wrote: Wed Sep 16, 2020 10:25 am I've been thinking something similar to the OP. Some of the responses here have simply pointed out that utilities are stocks, which I don't think answers the question: we all know that utilities are stocks. The question is really what their return and volatility look like.
Nisiprius had a nice chart in this other thread of a similar topic:
viewtopic.php?p=5465613#p5465613
Image

In this fair test it looks like Utilities are beating Total Market by a full percent
before tax. Why wouldn't that be good for diversification ?
age in bonds, buy-and-hold, 10 year business cycle
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Re: Substituting bond with RE/utility ETFs?

Post by jason2459 »

patrick013 wrote: Thu Sep 17, 2020 11:57 am
Dude2 wrote: Thu Sep 17, 2020 4:55 am
boglemymind314 wrote: Wed Sep 16, 2020 10:25 am I've been thinking something similar to the OP. Some of the responses here have simply pointed out that utilities are stocks, which I don't think answers the question: we all know that utilities are stocks. The question is really what their return and volatility look like.
Nisiprius had a nice chart in this other thread of a similar topic:
viewtopic.php?p=5465613#p5465613
Image

In this fair test it looks like Utilities are beating Total Market by a full percent
before tax. Why wouldn't that be good for diversification ?
I believe Utilities are good at diversification vs a total stock market or SP500 holding. More so then REIT which has been used to do so also. The utilities sector as a whole has lower correlation vs the Market. That is historically and don't know what future risks or performance will provide.

But, holding a utilities fund is still not a replacement for bonds.
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Re: Substituting bond with RE/utility ETFs?

Post by NMBob »

they don't. you can go in portfolio visualizer and put in vpu and vti and with its default end date of aug 2020, starting with the default start of jan 2005, you can change the start year to 06, 07, 08 every year to 2020 and for every start date from 1 jan 05 , 1 jan 06, ......to 1 jan 20, vti outperforms vpu cagr for every single time period ending in aug 20. .
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Re: Substituting bond with RE/utility ETFs?

Post by patrick013 »

NMBob wrote: Thu Sep 17, 2020 12:21 pm they don't. you can go in portfolio visualizer and put in vpu and vti and with its default end date of aug 2020, starting with the default start of jan 2005, you can change the start year to 06, 07, 08 every year to 2020 and for every start date from 1 jan 05 , 1 jan 06, ......to 1 jan 20, vti outperforms vpu cagr for every single time period ending in aug 20. .
My chart shows data from the start date where all 3 etf's have data.
Are you sure you have "reinvestment" taking place. You need that
to aggregate the cash value at the end of all the periods.

Plus I didn't include 2020 because of COVID. I feel that data is because
of COVID and year end 2021 would be a better comparison when that
data is available. The time period available has the 2008-2009 market
crash included. Market crash data can be overly volatile until markets
equilibrate afterwards.
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Re: Substituting bond with RE/utility ETFs?

Post by patrick013 »

jason2459 wrote: Thu Sep 17, 2020 12:19 pm But, holding a utilities fund is still not a replacement for bonds.
Sure, but alot of investors and advisors are doing it anyway because
interest rates are so low and they feel the risk is on the low side.
Utility regulation helps because rates, expansion projects, debt,
and dividends are monitored by the regulators. Only the best
companies are selected for the index.
age in bonds, buy-and-hold, 10 year business cycle
magneto
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Re: Substituting bond with RE/utility ETFs?

Post by magneto »

Share the misgivings about Bonds at present pricing, following the 38 year Bond bull-market.

Meb Faber's 'Global Asset Allocation' is always worth a read or re-read.
It covers a few options, trouble is most are fully valued today.

Which leaves Cash, ready for any repeat Stocks' downturn ?
'There is a tide in the affairs of men ...', Brutus (Market Timer)
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Re: Substituting bond with RE/utility ETFs?

Post by ruralavalon »

patrick013 wrote: Thu Sep 17, 2020 11:57 am
Dude2 wrote: Thu Sep 17, 2020 4:55 am
boglemymind314 wrote: Wed Sep 16, 2020 10:25 am I've been thinking something similar to the OP. Some of the responses here have simply pointed out that utilities are stocks, which I don't think answers the question: we all know that utilities are stocks. The question is really what their return and volatility look like.
Nisiprius had a nice chart in this other thread of a similar topic:
viewtopic.php?p=5465613#p5465613
Image

In this fair test it looks like Utilities are beating Total Market by a full percent
before tax. Why wouldn't that be good for diversification ?
But the test for diversification benefit would be correlation with the overall stock market, not volatility, or performance, or risk adjusted performance.

The correlation between Vanguard Total Stock Market ETF and REIT ETF has been 46.

The correlation between Vanguard Total Stock Market ETF and Utilities ETF has been 31.

The correlation between Vanguard Total Stock Market ETF and TOTAL BOND ETF has been 4.

"Of the major asset classes, Treasury bonds have historically exhibited some of the lowest correlations with equities. The Bloomberg Barclays U.S. Aggregate Bond Index, which total bond market index funds track, has also been a serviceable equity diversifier, albeit not as robust as pure Treasuries." "Intuitively and in keeping with previous correlation analyses, various equity categories provide limited diversification with one another: . . . . " Morningstar (7/8/2020), "What's the Best Diversifier for Stocks?".
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Re: Substituting bond with RE/utility ETFs?

Post by alex_686 »

ruralavalon wrote: Thu Sep 17, 2020 1:10 pm But the test for diversification benefit would be correlation with the overall stock market, not performance or risk adjusted performance.

The correlation between Vanguard Total Stock Market ETF and REIT ETF has been 46.

The correlation between Vanguard Total Stock Market ETF and Utilities ETF has been 31.

The correlation between Vanguard Total Stock Market ETF and TOTAL BOND ETF has been 4.

Morningstar (7/8/2020), "What's the Best Diversifier for Stocks?".
What values are you using? Correlations are normally represented at a bounded percentage. +/- 100%. What does 4 verse 46 mean?

Also, what time period are period are we looking at? Partly because correlations change over time. We know the drivers of performance. We can imagine what the future might hold. Bond have had a 20 year bull market. Can this continue? To do so, the 10 year Treasury would have to fall from a sub 1% yield to a negative yield. I don't see that happening. I think the diversification benefit is at the end.

Lastly, a note. Yes, a better test for diversification is correlations rather than risk-adjusted performance. However, I will remind you that the goal is to get the best risk-adjusted performance. Diversification and correlations is just one tool in the toolkit to get you there.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
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patrick013
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Re: Substituting bond with RE/utility ETFs?

Post by patrick013 »

ruralavalon wrote: Thu Sep 17, 2020 1:10 pm
But the test for diversification benefit would be correlation with the overall stock market, not performance or risk adjusted performance.

The correlation between Vanguard Total Stock Market ETF and REIT ETF has been 46.

The correlation between Vanguard Total Stock Market ETF and Utilities ETF has been 31.

The correlation between Vanguard Total Stock Market ETF and TOTAL BOND ETF has been 4.
Sure no problem. I usually use Beta, which is the best measurement of portfolio volatility.
So VPU is .42 for this time period, a very low beta and a great diversifier. Most bond funds
have a 0 or even negative Beta. So performance and Beta are watched when I look at things.
Fairly the same but with a different metric.
age in bonds, buy-and-hold, 10 year business cycle
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Re: Substituting bond with RE/utility ETFs?

Post by NMBob »

patrick013 wrote: Thu Sep 17, 2020 12:42 pm
NMBob wrote: Thu Sep 17, 2020 12:21 pm they don't. you can go in portfolio visualizer and put in vpu and vti and with its default end date of aug 2020, starting with the default start of jan 2005, you can change the start year to 06, 07, 08 every year to 2020 and for every start date from 1 jan 05 , 1 jan 06, ......to 1 jan 20, vti outperforms vpu cagr for every single time period ending in aug 20. .
My chart shows data from the start date where all 3 etf's have data.
Are you sure you have "reinvestment" taking place. You need that
to aggregate the cash value at the end of all the periods.

Plus I didn't include 2020 because of COVID. I feel that data is because
of COVID and year end 2021 would be a better comparison when that
data is available. The time period available has the 2008-2009 market
crash included. Market crash data can be overly volatile until markets
equilibrate afterwards.
portfolio visualizer reinvests distributions to calculate accurate total returns. now, even if you go back to end dec 2019 and wish away the horrible 2020 for utilities, only 5 of the starting years 05, 06, 14, 16, 18 have higher cagrs for vpu than vti. that leaves 10 periods starting in the following years 07,8,9,10,11,12,13,15,17,19 that vti outperforms vpu ending in dec 2019. and as posted earlier, vti wins all last 15 year periods ending aug 20.

given the many many articles over the years about utilities , the articles don't usually say, and oh by the way , they outperform consistently the total return of the stock market besides being less volatile and a dividend producer. how would that be missed repeatedly for decades if true....
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Re: Substituting bond with RE/utility ETFs?

Post by Northern Flicker »

wiserabbit wrote: Wed Sep 16, 2020 4:04 am I understand they're not bonds, I just want to get rid of BND.
Why did you decide to be at 80% stock in your allocation, and what changed to warrant 100% stocks now?
Risk is not a guarantor of return.
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Re: Substituting bond with RE/utility ETFs?

Post by Dude2 »

I'm assuming that the low current and projected yield of BND has people seeing it as an unnecessary anchor in their portfolios. With stocks doing well, it's difficult to convince them that historically the total portfolio has benefitted from 20% bonds. That was then, this is now, is the reasoning. This blind faith in stocks may be perfectly fine for many people. On the other hand, the permabulls among us (speaking of myself) have, in fact, become a bit more defensive in the bond arena. I just moved a large chunk of BND from Vanguard to my credit union where I can still add to some CDs yielding in the 3's. So, one doesn't have to abandon bonds for stocks, you may, as an individual investor, be able to trade BND for higher-yielding direct CDs. IBonds are another safe port in a storm available to individuals. Stable Value funds in retirement plan, another good one. Nobody said BND was the one and only answer. (Note that I sit at 50/50 stock/bond and 50/50 TIPS/Nominal because I just don't know. Therefore, bond considerations matter way more to me than an 80/20 guy. I'm pretty confident that BND will serve that person just fine).
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patrick013
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Re: Substituting bond with RE/utility ETFs?

Post by patrick013 »

NMBob wrote: Thu Sep 17, 2020 4:59 pm
portfolio visualizer reinvests distributions to calculate accurate total returns. now, even if you go back to end dec 2019 and wish away the horrible 2020 for utilities, only 5 of the starting years 05, 06, 14, 16, 18 have higher cagrs for vpu than vti. that leaves 10 periods starting in the following years 07,8,9,10,11,12,13,15,17,19 that vti outperforms vpu ending in dec 2019. and as posted earlier, vti wins all last 15 year periods ending aug 20.
What do you get vpu vs vti from 2005 to 2019 ? A 15 year fractile.
Could you post the link ?

I don't think utilities are going to truance the market but are very
competitive, rising dividends usually, and articles otherwise are
generally unreliable like most shock journalism in a market crash.
age in bonds, buy-and-hold, 10 year business cycle
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Re: Substituting bond with RE/utility ETFs?

Post by Valuethinker »

wiserabbit wrote: Mon Sep 14, 2020 10:07 am Hi everyone,

with interest rates down, total bond market yield is unlikely to cover the inflation rate. My boglehead portfolio is (roughly) 80/20 VT/BND and I consider replacing BND with RE/utility ETFs such as VNQ and VPU.

I do not plan to touch my savings for the upcoming 20+ years, so RE and utility market swings of 20-30% do not bother me too much. What bothers me, however, is if real estate and utility sectors are here to stay (and grow at least in pace with inflation) for decades. Which I believe is true.

Does switching to VT/VNQ+VPU portfolio make sense to you like the long term plan? Or should I stick with BND even though it yields a negative return after inflation?

Thank you!
You really should not confuse these stocks with bonds.

Try running the chart of 2008-09 for these sectors against Vanguard Total Bond Market. You will see a completely different pattern.
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Re: Substituting bond with RE/utility ETFs?

Post by Sandtrap »

wiserabbit wrote: Wed Sep 16, 2020 4:04 am I understand they're not bonds, I just want to get rid of BND.

With all portfolio stabilization/rebalancing considerations, I do not feel good with keeping 20% of my portfolio in something equaling to a guaranteed loss (after inflation).
Another option:

90/0/10

90% equities
0% bond or bond like
10% cash or cash like

j :happy
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Re: Substituting bond with RE/utility ETFs?

Post by Northern Flicker »

patrick013 wrote: Fri Sep 18, 2020 8:39 am
NMBob wrote: Thu Sep 17, 2020 4:59 pm
portfolio visualizer reinvests distributions to calculate accurate total returns. now, even if you go back to end dec 2019 and wish away the horrible 2020 for utilities, only 5 of the starting years 05, 06, 14, 16, 18 have higher cagrs for vpu than vti. that leaves 10 periods starting in the following years 07,8,9,10,11,12,13,15,17,19 that vti outperforms vpu ending in dec 2019. and as posted earlier, vti wins all last 15 year periods ending aug 20.
What do you get vpu vs vti from 2005 to 2019 ? A 15 year fractile.
Could you post the link ?

I don't think utilities are going to truance the market but are very
competitive, rising dividends usually, and articles otherwise are
generally unreliable like most shock journalism in a market crash.
Don't forget the uncompensated sector risk. Utilities also have wildfire risk (total wipeout of PG&E investors?).
Risk is not a guarantor of return.
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patrick013
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Re: Substituting bond with RE/utility ETFs?

Post by patrick013 »

Northern Flicker wrote: Fri Sep 18, 2020 4:46 pm
patrick013 wrote: Fri Sep 18, 2020 8:39 am
NMBob wrote: Thu Sep 17, 2020 4:59 pm
portfolio visualizer reinvests distributions to calculate accurate total returns. now, even if you go back to end dec 2019 and wish away the horrible 2020 for utilities, only 5 of the starting years 05, 06, 14, 16, 18 have higher cagrs for vpu than vti. that leaves 10 periods starting in the following years 07,8,9,10,11,12,13,15,17,19 that vti outperforms vpu ending in dec 2019. and as posted earlier, vti wins all last 15 year periods ending aug 20.
What do you get vpu vs vti from 2005 to 2019 ? A 15 year fractile.
Could you post the link ?

I don't think utilities are going to truance the market but are very
competitive, rising dividends usually, and articles otherwise are
generally unreliable like most shock journalism in a market crash.
Don't forget the uncompensated sector risk. Utilities also have wildfire risk (total wipeout of PG&E investors?).
We'll need a utility index ex-PG&E then. Just like we'll need a 500
index ex-Financials when the trillion dollar bail-outs stop coming thru
every 5 or 10 years. No help from energy no help from financials
just some $500 cell phones to buy.
age in bonds, buy-and-hold, 10 year business cycle
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Re: Substituting bond with RE/utility ETFs?

Post by Northern Flicker »

What is needed is to diversify away uncompensated sector and unsystematic risk, not the foresight to avoid it by stock picking or sector picking.
Risk is not a guarantor of return.
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Re: Substituting bond with RE/utility ETFs?

Post by Northern Flicker »

A 50-50 mix of intermediate treasuries and intermediate TIPS has provided similar equity downside protection as BND, but is more protected from inflation. This is the bond portfolio recommended to individuals by David Swensen, Chief Investment Officer of the Yale Endowment. VGIT and SCHP would be the ETF implementation.

You could take more equity downside risk and have more inflation protection by just holding TIPS. You could compensate for that by reducing the equity allocation, say 70% VT, 30% SCHP. This will lower your expected real (inflation-adjusted) return, but would reduce variance of your long-term real return.

As mentioned upthread, if bonds are held in taxable space, iBonds would offer the best combined protection from equity downside risk and inflation risk, but they will not support rebalancing very well.

Just some ideas.
Risk is not a guarantor of return.
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