Stable Value Fund & Portfolio Correlation - Advice Needed.

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STVCT
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Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by STVCT »

Hey All,

Thanks for your patience with me, I'm relatively new to taking my investing more seriously. I'm reading a ton of books, and have learned a lot from this forum. As I continue to learn more, some of my posts have involved throwing crazy ideas at the wall to see what sticks - I promise this one is more grounded!

My current portfolio
61% Domestic Index - spread across VTSAX, VTI and my 401k's S&P 500. All expense ratios under 0.04
25% International Index - VXUS (0.08)
14% Reit Index - VNQ (0.12)

My IPS is evolving as I learn more, I haven't written it in stone yet. I'm 34, and feel pretty comfortable with short-term risk in my long-term portfolio, hence 100% equities.

We are all sick of the "are bonds worth it" posts, but for rebalancing purposes I'm considering adding some form of fixed income. I have read many previous posts on the board regarding stable value funds, but didn't find a discussion about correlation. If a stable value fund straddles the line between acting like cash and like bonds, how should I consider it from a correlation perspective? I currently have a weight on REITs, because I want to decrease correlation a bit without a large decrease in risk.

I have read about the all-weather and permanent portfolios, which make a case for protecting against any economic climate. If bonds to well in good times and during deflation, and cash helps in a recession, is the stable value fund a good option to create a slight barrier in both situations? I also am aware that some fixed income is probably a good thing in any portfolio, but the current economic climate doesn't make adding bonds look prudent. Bonds will be something I'll gladly add in the future as the portfolio grows and I increase FI allocation.

For now:

1) How should I view stable value funds from an allocation standpoint. Are they more like money market or bonds?
2) Are they providing any correlation impact? Cash and bonds don't seem tightly correlated, would love thoughts on how the stable value will act.
3) I would probably add somewhere in the 10% range, moving to 90/10. AA aside, is that enough to use for rebalancing purposes? What threshold might work for a rebalancing trigger on such a small amount?
4) The funds are always valued at a dollar. Am I correct to assume any growth would come in the fund of more 'shares'?


The option is Stable Value Common Trust Fund SV-PB. Yield between 2.15% and 2.32% for 1,3,5, and 10 year ranges. Expense ratio 0.15%


Thank you in advance for your feedback and for making me smarter.
alex_686
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by alex_686 »

Cash is a type of bond. Maybe a special type of bond, but still a bond. It has a duration of zero.

A stable value fund is also a bond. Or maybe more technically a fixed income instrument which contains bonds and options (Insurance).

I would toss correlations of the actual stable found from your analysis. The options trash the math behind correlation calculations. Maybe use a Treasury of the same duration. Correlations do not give precise numbers so that should work as a substitute.

As a exercise, think about what happens to your portfolio if interest rates are stable, if they increase, or if the yield curve steepening (long tenor bonds yields increase more than short tenor bonds). Then ask those those changes would effect, and are effected by, the equity market.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
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Horton
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by Horton »

A stable value fund is similar to a savings account, money market account, or CD. Your principal is generally stable and accrues interest over a period of time. What’s the correlation with the market? Close to zero, but slightly positive. I just looked at the stable value option in my 401(k) and it has a beta of 0.1.
Soon2BXProgrammer
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by Soon2BXProgrammer »

TLDR. I use a stable value that yields 2.5% (annualized based on last 30 days) as my "safe asset" holding.
Dottie57
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by Dottie57 »

Soon2BXProgrammer wrote: Tue Jan 12, 2021 2:42 pm TLDR. I use a stable value that yields 2.5% (annualized based on last 30 days) as my "safe asset" holding.
Doesn’t yield show that it is fairly risky?
Soon2BXProgrammer
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by Soon2BXProgrammer »

Dottie57 wrote: Tue Jan 12, 2021 2:45 pm
Soon2BXProgrammer wrote: Tue Jan 12, 2021 2:42 pm TLDR. I use a stable value that yields 2.5% (annualized based on last 30 days) as my "safe asset" holding.
Doesn’t yield show that it is fairly risky?
Not exactly. stable value is a unique type of fund. Underneath it might hold bonds, it also can hold insurance contracts, etc. my stable value fund is backed by 8 (or maybe 9) different insurance companies. It is a well ran and insured fund. (this isn't true for all stable value funds).

https://www.bogleheads.org/wiki/Stable_value_fund

Underneath the hood, my stable value is a GIC (from that article), however they don't guarantee it to me. (because as they have to reinvest, the rates go up and down)
alex_686
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by alex_686 »

Dottie57 wrote: Tue Jan 12, 2021 2:45 pm
Soon2BXProgrammer wrote: Tue Jan 12, 2021 2:42 pm TLDR. I use a stable value that yields 2.5% (annualized based on last 30 days) as my "safe asset" holding.
Doesn’t yield show that it is fairly risky?
Why would you say that?

Stable funds are a insurance product. There are a couple of tricks that they can use to get the higher yield. Unlike a bond fund where principle and yields move with the market, stable funds will lock in yields for a length of time. If a falling interest rate environment this is good, in a raising one maybe not. I would guess that the yield will fall the next time the yield is set.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
Dottie57
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by Dottie57 »

alex_686 wrote: Tue Jan 12, 2021 3:02 pm
Dottie57 wrote: Tue Jan 12, 2021 2:45 pm
Soon2BXProgrammer wrote: Tue Jan 12, 2021 2:42 pm TLDR. I use a stable value that yields 2.5% (annualized based on last 30 days) as my "safe asset" holding.
Doesn’t yield show that it is fairly risky?
Why would you say that?

Stable funds are a insurance product. There are a couple of tricks that they can use to get the higher yield. Unlike a bond fund where principle and yields move with the market, stable funds will lock in yields for a length of time. If a falling interest rate environment this is good, in a raising one maybe not. I would guess that the yield will fall the next time the yield is set.
The stable value fund in my 401k is very opaque with little information. As for being an insurance product, well insurance companies can fail for various reasons. As I am told here in BH, Higher yields usually come with higher returns.
Northern Flicker
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by Northern Flicker »

Dottie57 wrote: Tue Jan 12, 2021 2:45 pm
Soon2BXProgrammer wrote: Tue Jan 12, 2021 2:42 pm TLDR. I use a stable value that yields 2.5% (annualized based on last 30 days) as my "safe asset" holding.
Doesn’t yield show that it is fairly risky?
No, it does not. Imagine a hypothetical stable value fund with a single bond with a 3% yield in its portfolio. Suppose the SVF provider takes a 50 bp premium for absorbing the credit risk and term risk of the bond, and passes the remaining interest through to investors, giving the SVF a 2.5% yield. Falling rates may have led to the market value of the bond appreciating. Suppose the market yield on such a bond is now 1%.

The SVF will not realize the price appreciation associated with the fall in interest rates. That's what the "stable" in stable value fund means. Relative to the unchanged share price of the stable value fund, the bond is still earning 3% and the portion of the interest passed through is still 2.5% of the share value of the fund.

Thus, a stable value fund behaves more like a CD with respect to rate changes. However, turnover from maturing bonds and new inflows of funds to be invested may lead to adjustments in the crediting rate to reflect bonds purchased having different yields.

The SVF available to the OP is still at 2.5% because the bonds in it are not marked to market value for the calculation of share price. The insurance company is not actually absorbing the term exposure in normal conditions, but is just managing the liquidity by having relatively predictable flows in and out, and avoiding having to sell bonds below par to process a withdrawal at stable value.

The annual limits on 401K contributions, the ability to withdraw only at termination or retirement, and limits on moving between a SVF and bond fund limit withdrawals, and are what make it work. And there will be rules enabling withdrawals to be processed at market value if a corporate layoff or SVF termination from the plan occurs requiring large withdrawal flows.
Last edited by Northern Flicker on Wed Jan 13, 2021 12:07 am, edited 2 times in total.
Risk is not a guarantor of return.
alex_686
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by alex_686 »

Dottie57 wrote: Tue Jan 12, 2021 3:37 pm The stable value fund in my 401k is very opaque with little information. As for being an insurance product, well insurance companies can fail for various reasons. As I am told here in BH, Higher yields usually come with higher returns.
As these things go, A stable value fund's principle is pretty safe. The big risk is that of lagging performance and liquidity. Which is another trick that stable funds can use.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
Topic Author
STVCT
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by STVCT »

Hey Everyone,

Thanks for all of the responses and good dialogue here. What I'm gathering is that it may be a good proxy for me that's somewhere between fixed income and cash. It seems to satisfy concerns I would have about each.
Horton wrote: Tue Jan 12, 2021 2:30 pm A stable value fund is similar to a savings account, money market account, or CD. Your principal is generally stable and accrues interest over a period of time. What’s the correlation with the market? Close to zero, but slightly positive. I just looked at the stable value option in my 401(k) and it has a beta of 0.1.
This answers my first and questions, I will thank about it as cash from an asset class perspective.
STVCT wrote: Tue Jan 12, 2021 12:06 pm 3) I would probably add somewhere in the 10% range, moving to 90/10. AA aside, is that enough to use for rebalancing purposes? What threshold might work for a rebalancing trigger on such a small amount?
For this one, if I were 10% in stable fund, how would I think about rebalancing triggers on such a small amount? If it moves below 5% or above 15%? Or, should I just not worry about it and feel good to have some stabilization in an otherwise equity-heavy portfolio.

I'm trying to reduce correlation with some psuedo-alternative asset classes without going crazy or creating a complex portfolio. The Reits and Stable Value still feel like stocks and bonds, but may act a little differently (even though they are actually comprised of stocks and bonds).
Soon2BXProgrammer
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by Soon2BXProgrammer »

TLDR.. the one item you need to be careful about Stable Value funds is if they have any redemption restrictions. Some do, some don't.
Last edited by Soon2BXProgrammer on Tue Jan 12, 2021 5:09 pm, edited 1 time in total.
Topic Author
STVCT
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by STVCT »

Alex, a few questions for you.
alex_686 wrote: Tue Jan 12, 2021 12:43 pm As a exercise, think about what happens to your portfolio if interest rates are stable, if they increase, or if the yield curve steepening (long tenor bonds yields increase more than short tenor bonds). Then ask those those changes would effect, and are effected by, the equity market.
I have thought about this, but would love a second opinion. I don't have bonds at the moment so I'm not sure what interest rate changes will do to my portfolio. Equities seem to be unphased between now and the end of 2019 with completely different interest rates. It would likely effect my REITs but I'm not sure in what capacity.

On a side note, there's not much room for interest rates to go lower, and in a different interest rate environment as I get closer to my goals I will be adding bonds.

alex_686 wrote: Tue Jan 12, 2021 3:02 pm
Stable funds are a insurance product. There are a couple of tricks that they can use to get the higher yield. Unlike a bond fund where principle and yields move with the market, stable funds will lock in yields for a length of time. If a falling interest rate environment this is good, in a raising one maybe not. I would guess that the yield will fall the next time the yield is set.

Can I interpret "falling interest rate environment" as "low interest rate environment"? If so, are you suggesting our current low interest rate environment is more attractive for the stable fund and less attractive for a bond fund? That would be the correlation information that I am seeking to understand. :D
exodusNH
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by exodusNH »

STVCT wrote: Tue Jan 12, 2021 5:09 pm Can I interpret "falling interest rate environment" as "low interest rate environment"? If so, are you suggesting our current low interest rate environment is more attractive for the stable fund and less attractive for a bond fund? That would be the correlation information that I am seeking to understand. :D
I can't speak about the details of your fund, but in my 401K, the stable value fund is described as

"The Great-West Investments Fixed Account (GWI Fixed Account)is a general account product of Great-West Life & Annuity Insurance Company (GWL&A). Because the GWI Fixed Account is a general account product offered through a group annuity contract, participant principal and interest are backed by the entire general account assets of GWL&A."

You can read the details here: https://docs.retirementpartner.com/fund ... FUNDOV.PDF

I think what it means is that this company would have to go out of business for it to be affected. The company has been around since 1891.

I don't know how often the rate changes. The November 2020 statement had it at 2.2%. I assume it either changes quarterly or yearly.

I treat it as cash. They do restrict you from "excessive trading", but when I asked if it made sense to contribute to it, the advisor (who has a fiduciary duty to me) said it was useful to have ~4% of the 401K in that fund to act as "dry powder". Right now, it's 3.27% of my 401K and gets 4% of my contribution.
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by placeholder »

Megacorp's stable value has an assortment of bonds that it manages with insurance wrappers from a pool of insurers to guarantee the principal which made it a solid but unremarkable performer over the years and I use it at 50/50 with bond index for my fixed income.
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by placeholder »

alex_686 wrote: Tue Jan 12, 2021 3:45 pm As these things go, A stable value fund's principle is pretty safe. The big risk is that of lagging performance and liquidity. Which is another trick that stable funds can use.
Those (like megacorp) that use synthetic gics consisting of a pool of bonds will lag interest rate shifts unlike tsp g fund which has a more immediate response.
alex_686
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by alex_686 »

STVCT wrote: Tue Jan 12, 2021 5:09 pm Can I interpret "falling interest rate environment" as "low interest rate environment"? If so, are you suggesting our current low interest rate environment is more attractive for the stable fund and less attractive for a bond fund? That would be the correlation information that I am seeking to understand. :D
By "falling" I mean a period where interest rates are falling. For example, when COVID hit last year rates fell dramatically. For the week they have been rising. They can still rise quite a bit a be low either in historical terms or real terms.

First, do you know about the concept of "Bond Duration"? This is a critical concept with only a little bit of math. Basically, price and yield are the inverse of the other. When yields fall then bond prices go up. This has been a nice tailwind for bond funds over the past few years. However, when yields rise the price goes down. If the yield rises in the future this will be a headwind for bond funds. There is some nuance here. How fast do yields move? How steep is the yield curve? That is, what is the difference between a 10 year Treasury and a 90 day bill. Does the entire curve go up and down, or does the 10 year move more than the 90 day?

Second, this is not how stable funds work. It is a contract. We will pay X yield for the next Y period based on Z. Now, here is one problem with stable value funds - each one is a custom contract. So I am going to generalize here, but it is important to read the details. When yields were falling the principle of the bond fund did not increase. That is not how it works. So no benefit there - it would have been trailing the bond fund. On the other hand, if rates where to shoot up overnight, bond funds were be crushed but stable value funds would be unaffected. Periods of slow movement - hard to tell who would win but they would generally track each other, but the stable value fund always adjust slower - for good or for ill.

It is the optionality of the insurance contract, that hard floor that makes "correlations" such a dangerous word. I am generally a fan of stable value funds. They work well in the fixed income role.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
alex_686
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by alex_686 »

exodusNH wrote: Tue Jan 12, 2021 5:34 pm I think what it means is that this company would have to go out of business for it to be affected. The company has been around since 1891.
To expand a bit, the stable value fund is its own fund. That is it has a segregated account (pool, fund) of assets and contracts. In theory that pool is sufficient to cover all of its obligations. This is overseen, regulated, and tested by a state insurance regulator. Great-West Investments could go bankrupt and the stable value fund would be unaffected. However, if the fund gets into trouble it is backstopped by Great-West Investment reserve fund.
Former brokerage operations & mutual fund accountant. I hate risk, which is why I study and embrace it.
exodusNH
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by exodusNH »

alex_686 wrote: Tue Jan 12, 2021 5:54 pm
exodusNH wrote: Tue Jan 12, 2021 5:34 pm I think what it means is that this company would have to go out of business for it to be affected. The company has been around since 1891.
To expand a bit, the stable value fund is its own fund. That is it has a segregated account (pool, fund) of assets and contracts. In theory that pool is sufficient to cover all of its obligations. This is overseen, regulated, and tested by a state insurance regulator. Great-West Investments could go bankrupt and the stable value fund would be unaffected. However, if the fund gets into trouble it is backstopped by Great-West Investment reserve fund.
Thanks for the clarification!
Northern Flicker
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Re: Stable Value Fund & Portfolio Correlation - Advice Needed.

Post by Northern Flicker »

alex_686 wrote:To expand a bit, the stable value fund is its own fund. That is it has a segregated account (pool, fund) of assets and contracts.
Some have segregated assets, some do not.
Risk is not a guarantor of return.
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