larry swedroes allocation to TIPS ratio is for new $?

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kikie
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larry swedroes allocation to TIPS ratio is for new $?

Post by kikie »

larry swedroes allocation to TIPS ratio is for new $?

only ? or is he advising to sell TIPS when the real TIP yield goes up and down?


eg with ST v. 10 yr TIP , if the 10 yr TIP is paying 0.625 % 10 yr T-bill is 2.0% ; the spread is <1.5% : larry's chart says to allocate 0%

trouble is I have a nice TIP paying 3.0% over inflation , which I don't want to sell.

so i'm assuming the chart is only for new money allocation, not rebalancing?
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Post by mamster »

If you believe in a shifting strategy such as Larry's, it does mean changing your overall allocation by buying and selling TIPS as appropriate.

The coupon on your TIPS is mostly irrelevant. The real yield on the bond you're holding is just as bad as on a new bond of the same maturity. If you like that particular issue, you can buy more of it; you'll just have to pay more than when you first bought it.

I-bonds are different, because they don't trade. You can't buy a 3% I-bond at any price and probably don't want to redeem one if you're lucky enough to own it.
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Post by tfb »

mamster wrote:I-bonds are different, because they don't trade. You can't buy a 3% I-bond at any price and probably don't want to redeem one if you're lucky enough to own it.
You also can't sell it for its true market value. It's a negative for I-Bonds because you lose liquidity.
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Post by mamster »

Right, I understand. I got the sense that the OP was confusing TIPS and I-bonds.
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fwiw

Post by larryswedroe »

ee my new TIPS update on my blog at cbs moneywatch.bnet.com

Note one can only put so much into a table that is a guideline---you have to consider the alternatives available at the time you invest. Right now there are no good alternatives in absolute terms, just relative.

The steep yield curve for TIPS argues one way--go longer
The very low absolute level of rates argues to go the other way, stay short and expect over time RTM of real rates


So choice is difficult one. Personally I am staying in DFA ST extended credit fund and waiting/hoping real rates will eventually return to norm.
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kikie
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Post by kikie »

I do have both a TIPS 30yr, and a bunch of I -bonds.

not sure I understand your point?

I thought my real yield was 3% ; which is not "as bad" as the current real yield that can be bought at face value.

Sure one can buy this yield in the secondary market, and then annualize it for say 20 years, and are you saying that, that is a neglible amount?

Or that the value of an I -bond at 3% is higher than the value of a TIPS at 3% , because the I-bond is not aquirable?

fwiw, I intend to keep the TIPS till maturity, in 20 years
----------

mamster wrote:If you believe in a shifting strategy such as Larry's, it does mean changing your overall allocation by buying and selling TIPS as appropriate.

The coupon on your TIPS is mostly irrelevant. The real yield on the bond you're holding is just as bad as on a new bond of the same maturity. If you like that particular issue, you can buy more of it; you'll just have to pay more than when you first bought it.

I-bonds are different, because they don't trade. You can't buy a 3% I-bond at any price and probably don't want to redeem one if you're lucky enough to own it.
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Post by mamster »

paix wrote:I thought my real yield was 3% ; which is not "as bad" as the current real yield that can be bought at face value.
You're confusing the coupon of the bond with the yield. The coupon of your TIPS never changes (in real terms). But the yield to maturity fluctuates along with real interest rates. Right now the yield on your 30-year bond is much lower than when you bought it. On the other hand, you can sell it for more than face value.

I'm not suggesting that you either sell it or hold it, but you seem to have the idea that there's something special about a particular bond because of its coupon or because of when you bought it. That can be true for I-bonds (because they're non-marketable) but not for TIPS. If you want to buy more TIPS with a 3% coupon, you can do so right now.

Larry is saying that the current spread favors intermediate TIPS over nominal bonds because you'd have to see historically tiny inflation for nominals to outperform in nominal terms. (Which could, of course, happen.)

paix, I'd encourage you to read the wiki article on bond pricing:

Bond Pricing

It's a bit of a slog but worth understanding, especially if you're going to own individual bonds.
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Post by kikie »

ok, thanks for the headsup, on coupon v. yield, and on how to think about bonds better,

lets say I intend to hold everything to maturity, and my main goal is to beat the CPI, the 30yr TIPS pays 3.x% above CPI ; yes it has an equivalent value to a new TIPS, as its yield has decreased as it's value has gone up, but that is only if I intended to sell it. Purchasing a new TIPS say with a 1.x% coupon at a discount compared to the TIPS paying 3.x%, seems to only make sense in today's terms, meanwhile a 3.x% coupon does matter.

Or are you saying when one is trying to stay ahead of the CPI , one should look at a bond's yield and not it's coupon? Even if holding everything to maturity?



so lack of liquidity is a downside to the I-bond, the upside is that since that coupon can't be purchased it's equivalent yield is higher because it's value is also not variable, eg if interest rates rise, it will never sell at a discount?

mamster wrote:
paix wrote:I thought my real yield was 3% ; which is not "as bad" as the current real yield that can be bought at face value.
You're confusing the coupon of the bond with the yield. The coupon of your TIPS never changes (in real terms). But the yield to maturity fluctuates along with real interest rates. Right now the yield on your 30-year bond is much lower than when you bought it. On the other hand, you can sell it for more than face value.

I'm not suggesting that you either sell it or hold it, but you seem to have the idea that there's something special about a particular bond because of its coupon or because of when you bought it. That can be true for I-bonds (because they're non-marketable) but not for TIPS. If you want to buy more TIPS with a 3% coupon, you can do so right now.

Larry is saying that the current spread favors intermediate TIPS over nominal bonds because you'd have to see historically tiny inflation for nominals to outperform in nominal terms. (Which could, of course, happen.)

paix, I'd encourage you to read the wiki article on bond pricing:

Bond Pricing

It's a bit of a slog but worth understanding, especially if you're going to own individual bonds.
Those who know do not speak; those who speak do not know.
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Post by mamster »

paix wrote:Or are you saying when one is trying to stay ahead of the CPI , one should look at a bond's yield and not it's coupon? Even if holding everything to maturity?
Basically, yes, but keep in mind that you're farther ahead than you think you are because interest rates have fallen. You can think of your bond in two different ways:

1. It has a current value of $1300 and a YTM of 1% (I'm making these numbers up).

2. It's that bond I bought for $1000 that will return about 3% above inflation over its lifetime, or maybe less or more depending on how its coupons are reinvested.

Neither way of looking at it is right or wrong; the thing about bonds is that they will pay out a certain amount over time, but you may get it sooner or later than you expected because of changes in interest rates. In this case, it's sooner.

Or here's another way of looking at it. Say there's 20 years left on your 30-year TIPS. If you sell the 30-year TIPS today and buy a 20-year TIPS with a lower coupon, your return over the next 20 years will be about the same.

As someone in the accumulation phase, I find bond coupons really annoying. One of the great things about I bonds is that they accrue value rather than spitting out payments that I have to figure out what to do with. This is why I've mostly stuck with bond funds.
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Post by #Cruncher »

paix wrote:Or are you saying when one is trying to stay ahead of the CPI , one should look at a bond's yield and not it's coupon? Even if holding everything to maturity?
I believe that's just what mamster is saying. Maybe a concrete case will clarify the point. Assume you hold $1,000 face value of the 30-year TIPS with a 3.375% coupon maturing in April 2032. Since it was first issued its inflation adjusted principal has increased to about $1,270. Because its real yield to maturity has fallen to about 0.75%, on Wednesday you could have sold it in the secondary market for about $1,900 ($1,270 X 150% unadjusted price). On the other hand if you hold it until maturity, you'll receive in today's dollars:
  • $1,270 of principal in April 2032.
  • $43 in interest each year for the next 20.5 years ($1,270 X 3.375% = $43).
You'll get a total of $2,150; just $250 more than the $1,900 you could get if you liquidated. It should be apparent that by holding you're not making 3.375% per year more than inflation, you're making much less. In fact, taking into account the time value of money, you're making just 0.75% per year more than inflation -- which is what the real yield to maturity means.

Source: WSJ TIPS Quotes 09/07/2011
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Post by kikie »

I understand that if interest rates rise, my YTM will decrease, possibly even lower that the coupon rate, however, I don't see how the coupon rate or coupon rates themselves are "irrelevant".

Yes, I could purchase the same bond at a premium and get a nicer coupon, but I'd be paying a premium over what I paid, hence my YTM would decrease compared to where I bought in.

I, also, don't see how, once the coupon is harvested, why how its re-invested matters, I do want to beat CPI over time, but I'm not expecting the bond to do that after the point in time it pays out the coupon, though, of course it would be nice. I'm just expecting it to hold its value, and mitigate the interest rate risk of holding long term bonds

re: "yields" ; the term seems to be used ambiguously, thanks again
http://www.investopedia.com/terms/y/yield.asp

Bonds have four yields: coupon (the bond interest rate fixed at issuance), current (the bond interest rate as a percentage of the current price of the bond), and yield to maturity (an estimate of what an investor will receive if the bond is held to its maturity date). Non-taxable municipal bonds will have a tax-equivalent (TE) yield determined by the investor's tax bracket.




mamster wrote:
paix wrote:Or are you saying when one is trying to stay ahead of the CPI , one should look at a bond's yield and not it's coupon? Even if holding everything to maturity?
Basically, yes, but keep in mind that you're farther ahead than you think you are because interest rates have fallen. You can think of your bond in two different ways:

1. It has a current value of $1300 and a YTM of 1% (I'm making these numbers up).

2. It's that bond I bought for $1000 that will return about 3% above inflation over its lifetime, or maybe less or more depending on how its coupons are reinvested.

Neither way of looking at it is right or wrong; the thing about bonds is that they will pay out a certain amount over time, but you may get it sooner or later than you expected because of changes in interest rates. In this case, it's sooner.

Or here's another way of looking at it. Say there's 20 years left on your 30-year TIPS. If you sell the 30-year TIPS today and buy a 20-year TIPS with a lower coupon, your return over the next 20 years will be about the same.

As someone in the accumulation phase, I find bond coupons really annoying. One of the great things about I bonds is that they accrue value rather than spitting out payments that I have to figure out what to do with. This is why I've mostly stuck with bond funds.
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Post by kikie »

I suppose I understand most of this, though not sure where the "150%" came from.

I am trying to find a YTM calculator, but the terms they use are confusing. This one using your number comes out close,

http://www.ultimatecalculators.com/yeil ... lator.html
However, using a future and present value of $1270, and 40 pay periods, 20 years of semi-annual payments, etc.

I'm not real clear if my 30 year TIPS 04/29 3.875 ; is or is not "beating inflation" at this point. I do seem to be getting a YTM of 6.x% , which seems good to me......

http://www.treasurydirect.gov/instit/an ... 092011.htm
#Cruncher wrote:
paix wrote:Or are you saying when one is trying to stay ahead of the CPI , one should look at a bond's yield and not it's coupon? Even if holding everything to maturity?
I believe that's just what mamster is saying. Maybe a concrete case will clarify the point. Assume you hold $1,000 face value of the 30-year TIPS with a 3.375% coupon maturing in April 2032. Since it was first issued its inflation adjusted principal has increased to about $1,270. Because its real yield to maturity has fallen to about 0.75%, on Wednesday you could have sold it in the secondary market for about $1,900 ($1,270 X 150% unadjusted price). On the other hand if you hold it until maturity, you'll receive in today's dollars:
  • $1,270 of principal in April 2032.
  • $43 in interest each year for the next 20.5 years ($1,270 X 3.375% = $43).
You'll get a total of $2,150; just $250 more than the $1,900 you could get if you liquidated. It should be apparent that by holding you're not making 3.375% per year more than inflation, you're making much less. In fact, taking into account the time value of money, you're making just 0.75% per year more than inflation -- which is what the real yield to maturity means.

Source: WSJ TIPS Quotes 09/07/2011
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Post by #Cruncher »

paix wrote:I suppose I understand most of this, though not sure where the "150%" came from
It is the unadjusted price of the 3.375% 30-year April 2032 TIPS from the WSJ TIPS Quotes 9/7/2011 web page. (To get the latest quotes click this link.) I picked 150 since it is in between the bid price of 149 25/32 and the ask price of 150 4/32. Multiplying this by the inflation factor of 1.271 means the adjusted price is about 190% of face value. That is, you'd get about $1,900 for each $1,000 of face value if you had sold in the secondary market on 9/7.
paix wrote:I am trying to find a YTM calculator, but the terms they use are confusing. This one using your number comes out close,
http://www.ultimatecalculators.com/yeil ... lator.html
However, using a future and present value of $1270, and 40 pay periods, 20 years of semi-annual payments, etc.
Normally one ignores the inflation factor when calculating the yield to maturity of a TIPS. In this calculator I entered the first 4 items and it calculated the YTM on the 5th line:

Code: Select all

Interest Payment        1.69     (3.375 / 2)
Future Value          100
Present Value         150        (current unadjusted price 9/7/11)
n (Number of Periods)  41        (20.5 years X 2)
Yield to Maturity       0.7454%  (which agrees with the 0.745% on the WSJ page)
You could multiply the Interest Payment, the Future Value, and the Present Value all by 1.271, and you'd get the same YTM, but why bother. The YTM depends only on the proportion of the 3 numbers, not their absolute values.
paix wrote:I'm not real clear if my 30 year TIPS 04/29 3.875 ; is or is not "beating inflation" at this point. I do seem to be getting a YTM of 6.x% , which seems good to me......
If you were lucky enough to have bought these bonds at the original auction on 4/7/1999 and you hold them to maturity, you will earn a 3.899% YTM over inflation. (See auction results PDF file.)

Code: Select all

Interest Payment        1.94      (3.875 / 2)
Future Value          100
Present Value          99.58      (unadjusted price at auction 4/7/99)
n (Number of Periods)  60         (30 years X 2)
Yield to Maturity       3.9039%
However, as mamster says above, "but you may get it sooner or later than you expected because of changes in interest rates. In this case, it's sooner." Plugging the figures into your calculator shows that you've had a tremendous real return to this point in time:

Code: Select all

Interest Payment        1.94     (3.875 / 2)
Future Value          152.50     (current unadjusted price 9/7/11)
Present Value          99.58     (unadjusted price at auction 4/7/99)
n (Number of Periods)  25        (4/1999 -> 9/2011 = 12.5 years X 2)
Yield to Maturity       6.6832%
However, your real YTM from now until maturity will be correspondingly less. The same WSJ page shows this TIPS has a real yield-to-maturity of 0.692% as of 9/7/2011. This is the amount by which it will beat inflation compared to its current liquidation value.

Code: Select all

Interest Payment        1.94      (3.875 / 2)
Future Value          100
Present Value         152.50      (current unadjusted price 9/7/11)
n (Number of Periods)  35         (9/2011 -> 4/2029 = 17.5 years X 2)
Yield to Maturity       0.6901%   (which agrees with the 0.692% on the WSJ page)
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Re: larry swedroes allocation to TIPS ratio is for new $?

Post by kikie »

I must admit, despite an attempt reading the Bond Pricing wiki, I seem to only understand the basics.

eg. I don't quite get the 'sooner' vs. 'later' data.

----------
it seems like what you all are saying is that the coupon value isn't important, because it will just be offset, perhaps more than the coupon, what is important is to be positioned best in the particular spreads of TIPS vs. nominal treasuries, and from ST to 10 year spreads.... ?


----------
so, lets say my TreasuryDir. 04/29 3.875 TIPS is YTM is only 0.7% ( it happens to be in a Taxable Account by the way)

and, let assume I wanted to use Larry's 'shifting strategy' ; is my "real TIPS yield" the YTM ? if so, Larry's chart for LT bond nominal vs. 10 yr TIPS says if the Real TIPS yield is < 1.75% that one should own 0% in TIPS ; but my TIPS is a 30 yr NOT a 10 year.

Would I just you the 10 yr TIPS chart anyway?
----------
I'm thinking that as it is in a taxable account, it is not an ideal spot to park the bond. But, up until you've pointed out the YTM, I had been thinking it was a great Bond to hold onto.
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kikie
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Re: fwiw

Post by kikie »

larryswedroe wrote:ee my new TIPS update on my blog at cbs moneywatch.bnet.com

Note one can only put so much into a table that is a guideline---you have to consider the alternatives available at the time you invest. Right now there are no good alternatives in absolute terms, just relative.

The steep yield curve for TIPS argues one way--go longer
........buy 10 yr TIPS if one wants to buy TIPS ?

The very low absolute level of rates argues to go the other way, stay short and expect over time RTM of real rates
........since nominal interest rates are at an absolute low, they are likely to rise, and when they do, any TIPS will fall in value?
........or since both inflation and nominal rates are low, one should avoid TIPS ?

........your chart for the sweet spot is for the spreads between nominal and TIPS, not just for the "real TIPS yield" or is "real TIPS yield" THE spread (TIPS vs. nominals), I've returned the book to the library

........."stay short" with TIPS ? but what about nominal bonds(ST or LT) vs. TIPS
.........at the moment 11% of my bonds are TIPS, but another 40% is I-bonds



So choice is difficult one. Personally I am staying in DFA ST extended credit fund and waiting/hoping real rates will eventually return to norm.
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kikie
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Re: larry swedroes allocation to TIPS ratio is for new $?

Post by kikie »

so, would this statement be accurate: holding individual TIPS is no different, from holding TIPS mutual funds, because the individual TIPS YTM will be affected by the overall treasury bond market yields. And when using a "shifting strategy" one is use YTM as the yield of choice for "larry's spread" ( eg if my ?real YTM is 0.75%, it indicates that nominals are preferred) [ though i understand that there RTM may override the decision whether to use the formula or not]


paix wrote:larry swedroes allocation to TIPS ratio is for new $?

only ? or is he advising to sell TIPS when the real TIP yield goes up and down?


eg with ST v. 10 yr TIP , if the 10 yr TIP is paying 0.625 % 10 yr T-bill is 2.0% ; the spread is <1.5% : larry's chart says to allocate 0%

trouble is I have a nice TIP paying 3.0% over inflation , which I don't want to sell.

so i'm assuming the chart is only for new money allocation, not rebalancing?
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