Are agency bonds safe for bond ladders in retirement accounts?

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Box of Rain
Posts: 29
Joined: Sun Dec 24, 2023 8:39 pm

Are agency bonds safe for bond ladders in retirement accounts?

Post by Box of Rain »

I have a portion of my 401K that will be rolled over to an IRA so I can invest in a bond ladder to provide some interest income, but primarily to serve as a rolling 5-6 year reservoir of funds for my annual expenses in retirement for years when the markets are down and I do not want to withdraw from stock funds. I know that a lot of people use US Treasury securities of varying durations and guaranteed fixed annuities to make their ladders. I have seen speakers at the Bogleheads conference recommend to avoid mortgage backed and agency bonds. But when I go to Vanguard to look for bonds to buy, the agency bonds (like Farm Credit banks, and Home loan banks, etc) seem to have higher interest rates that make them appealing. Is there a safety issue that I do not know about, or are these bonds commonly used by the Bogleheads community for bond ladders? They are generally callable, which I guess could make my ladder maintenance a full time job, but aside from the callable aspect, are there other issues?
thanks!
Valuethinker
Posts: 49129
Joined: Fri May 11, 2007 11:07 am

Re: Are agency bonds safe for bond ladders in retirement accounts?

Post by Valuethinker »

Box of Rain wrote: Tue Apr 02, 2024 5:17 am I have a portion of my 401K that will be rolled over to an IRA so I can invest in a bond ladder to provide some interest income, but primarily to serve as a rolling 5-6 year reservoir of funds for my annual expenses in retirement for years when the markets are down and I do not want to withdraw from stock funds. I know that a lot of people use US Treasury securities of varying durations and guaranteed fixed annuities to make their ladders. I have seen speakers at the Bogleheads conference recommend to avoid mortgage backed and agency bonds. But when I go to Vanguard to look for bonds to buy, the agency bonds (like Farm Credit banks, and Home loan banks, etc) seem to have higher interest rates that make them appealing. Is there a safety issue that I do not know about, or are these bonds commonly used by the Bogleheads community for bond ladders? They are generally callable, which I guess could make my ladder maintenance a full time job, but aside from the callable aspect, are there other issues?
thanks!
AFAIK some, like GNMA bonds, are "full faith and credit of the US Government" ie default risk = 0 (we hope).

Others may not be? So some (hopefully theoretical) default risk. I would go and look for the Prospectus(es). Assuming there is such a thing for a US Agency security (there must be?).

Dealing spreads, bid-ask, tend to be wide, I believe. In fact you won't always get bids on any given day, so you are totally illiquid at that point.

Callable is the big show stopper, however. You lose the whole benefit of holding bonds, potentially. Because your duration drops to zero, ie money market + a bit of a liquidity premium (additional yield due to illiquid bonds).
jebmke
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Location: Delmarva Peninsula

Re: Are agency bonds safe for bond ladders in retirement accounts?

Post by jebmke »

I think the default risk is very minor. I would not do callable bonds myself, especially in a ladder.

I have more or less pulled back to Treasuries and muni funds.
When you discover that you are riding a dead horse, the best strategy is to dismount.
JayB
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Joined: Sat May 28, 2022 9:57 am

Re: Are agency bonds safe for bond ladders in retirement accounts?

Post by JayB »

My Roth IRA long bond ladder, consisting only of non-callable zero coupon bonds -- mostly STRIPS, has about 12% of its value in Tennessee Valley Authority (TVA) agency bonds. The TVA bonds can be hard to cash out prior to maturity at a reasonable price, but I don't care because the bonds will all be held to maturity. The revenues to pay back TVA bondholders are required by law to be secured by TVA's charging customers sufficiently to cover the debts. And TVA is wholly owned by the US government. So not quite as secure as Treasurys, but I am willing to hold a modicum of TVAs because they pay about 60 bp higher yield annually than equivalent maturity STRIPS.
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