SPY / TLT Portfolio [SPDR S&P 500 / iShares 20+ Year Treasury Bond]

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runnerguy
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SPY / TLT Portfolio [SPDR S&P 500 / iShares 20+ Year Treasury Bond]

Post by runnerguy » Sat Jul 23, 2016 12:02 pm

What are your thoughts on this 2 fund portfolio?

For those not familiar it is sp500 and long term treasuries. The 2 have a negative correlation. As a portfolio they've produced 9% returns with only a 20% draw down going back to 1972. I believe the Vanguard Wellington fund is largely based on these 2 asset classes as well.

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nisiprius
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Re: SPY / TLT Portfolio

Post by nisiprius » Sat Jul 23, 2016 12:59 pm

runnerguy wrote:...The 2 have a negative correlation...
Please do not say things like that. Please be accurate... so that you will be accurate inside your own head... and say, "in the past, the two have had a negative correlation." This isn't a detail. Just as you always need to be asking, in the forefront of your mind, "will this outperformance persist, or was it just a temporary thing?" you always need to be asking "will this negative correlation persist, or is it just a temporary thing?"

If TLT has, in the past, been negatively correlated with stocks, it's probably because TLT has only existed since 2002. The long-term correlation between long-term Treasuries and stocks has been close to zero. Zero, not negative.

I'm very skeptical of claims of negative correlation with stocks for any long-only asset that has had a positive return of its own. A persistent, reliable negative correlation would mean that the asset is capable of cancelling out, erasing the risk of stocks... without, at the same time, erasing the return. That's close to magic. I think it's the investing equivalent of perpetual motion and can't be true (except accidentally for limited times because of chance fluctuation).

Portfolios that take short positions can have negative correlations with stocks, but the magician only can pull the rabbit out of the hat by putting the rabbit in to begin with--a short position on stocks has negative return as well as negative correlation.
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Re: SPY / TLT Portfolio

Post by dbr » Sat Jul 23, 2016 1:21 pm

We have heard an argument for combining only long bonds with high stock portfolios (not specifically S&P). The basis for the argument is higher return for long bonds, lack of correlation (the zero mentioned above not -1), and the fact that any choice of bonds has little effect on portfolio risk at high stock allocations.

I don't think we have ever heard of any particular reason to combine S&P 500 with LT bonds at balanced portfolio allocations, and I doubt there is any advantage on a risk/return argument. Probably a more common argument is to take risk in stocks and not in bonds which argues for short bonds and adjusting risk by allocating more to stocks. I don't have a set of numbers to hand you on this, although an interesting experiment is to enter FireCalc at 50/50 stocks bonds, 4% withdrawal rate, thirty years and find that 50% S&P 500/50% LT Treasuries has a failure rate of 20.4% and changing to 50% 30 day bills has a failure rate of 12.2%. Total market and 5-year Treasuries has a failure rate of 5.3% All of that is FWIW.

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Re: SPY / TLT Portfolio

Post by patrick013 » Sat Jul 23, 2016 1:33 pm

runnerguy wrote:What are your thoughts on this 2 fund portfolio?

For those not familiar it is sp500 and long term treasuries.
A portfolio of the 500 and 5 yr. CD's is one of the first portfolios
I heard of. A mutual fund for bonds could be ticker BIV or some
combo of VGIT and VCIT depending on rates. I'd like to reserve
LT TRSY's for when the rates are higher or even better on their
way down.

Ticker VPU VG Utilities has a low beta for a defensive allocation
of some percentage and usually a good yield. Not a bad idea
for that combination. Just MO.
age in bonds, buy-and-hold, 10 year business cycle

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Re: SPY / TLT Portfolio

Post by dbr » Sat Jul 23, 2016 1:41 pm

runnerguy wrote: I believe the Vanguard Wellington fund is largely based on these 2 asset classes as well.
Wellesley and Wellington use intermediate term investment grade bonds on average. These are not examples of combining LT Treasuries with stocks.

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Re: SPY / TLT Portfolio

Post by dbr » Sat Jul 23, 2016 1:48 pm

runnerguy wrote:What are your thoughts on this 2 fund portfolio?

For those not familiar it is sp500 and long term treasuries. The 2 have a negative correlation. As a portfolio they've produced 9% returns with only a 20% draw down going back to 1972.
A problem in looking at LT bond performance is that interest rates in the US have a long term history of a tremendous climb from 1962 to 1981 and then a tremendous decline from 1981 till now. It is really difficult to know how to project prior performance of portfolios containing that bond data to what one might expect in the next ten, twenty, or thirty years. You don't mention the allocation between the two -- do you mean 50/50?

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Re: SPY / TLT Portfolio

Post by Day9 » Sat Jul 23, 2016 3:05 pm

Yes the long term correlation is close to zero, not negative. The correlation during financial crises, perhaps when it matters most, has been negative. And the correlation lately has been negative.

Long Term Treasuries are a fine choice for someone with an extremely high stock allocation (like 90% stock 10% bond), someone who needs extra protection against deflation, and it complements a portfolio with a hefty allocation to emerging markets (see "Collective Thoughts" sticky) and commodity linked investments.
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Re: SPY / TLT Portfolio

Post by raven15 » Sat Jul 23, 2016 3:18 pm

My version of this would be 80% SPY, 10% TLT and 10% Ibonds. The I bonds will be better in rising interest rates or inflation. I don't use it, just a theory.

Be aware that long term bonds have not always improved returns or been negatively correlated with the S&P500. In the 50's through 80's long term bonds would have made things worse. If I recall there was a time in the 90's where bonds were so strongly correlated to stocks that people thought they were no longer useful as a diversifier. The future will not necessarily, or even likely, be the same as the past 15 years.
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JoMoney
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Re: SPY / TLT Portfolio

Post by JoMoney » Sat Jul 23, 2016 3:43 pm

I'm a fan of having the fixed income part of my savings as being something for safety and to sleep well at night. I don't have any confidence that the correlations between stocks and bonds will do that.
My preference, is to have my bonds targeted at a maturity/duration of when I think I might need the money. This leads me to relatively short duration on bonds. For money that I'm going to have invested for 10+ years , I'll take my chances with the stock market. For money I might need <5 years, I'll keep it in something where I know they money will be there when I need it. There is no promise that long-maturity bonds will be worth anything close to their purchase price if you want to sell them prior to maturity. With a bond fund there is no maturity, so if you wanted to ensure you got a certain return over a period you would have to actively manage your duration to achieve that result over some time period.
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Re: SPY / TLT Portfolio [SPDR S&P 500 / iShares 20+ Year Treasury Bond]

Post by Rob Bertram » Sat Jul 23, 2016 4:35 pm

I am a big fan of long-term treasuries with stocks in a ratio of 40% stocks / 30% LT treasuries / 30% intermediate treasuries. I do feel that there is a flight to quality that makes LT treasuries an ideal partner to stocks that reduces short-term volatility. I feel confident in this portfolio enough to leverage it 6x. (PV link)

Though, as nisiprius says, there is not enough data to clearly show the favorable correlation. And there is no guarantee that it will continue in the future.

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Re: SPY / TLT Portfolio

Post by nisiprius » Sat Jul 23, 2016 5:14 pm

Day9 wrote:...Yes the long term correlation is close to zero, not negative. The correlation during financial crises, perhaps when it matters most, has been negative. And the correlation lately has been negative...
Yes, but you also have to ask: how much is that in dollars? Even when the correlation is negative, the standard deviation of treasuries aren't very high so they don't provide very strong opposition.

Very roughly, Vanguard 500 Index dropped about 50% during 2008-2009 and Vanguard Long-Term Treasury Fund rose about 20%. They didn't do it at the same time, exactly, and PortfolioVisualizer for 2007-2010 inclusive, a correlation of -0.40, which is a long way from -1.00 but, yeah, definitely negative.

But. 50% drop, only a 20% rise. That means to a first approximation that if you wanted your long-term bonds to protect you fully against a drop in your stocks, you couldn't hold any more than a 2/7 or 28% stock allocation.

A 50/50 mix of Vanguard 500 Index and Vanguard Long-Term Treasury Bond Fund had a maximum drawdown of -20.47%, occurring December 2007 to February 2009.

A 50/50 mix of Vanguard 500 Index and plain old Total Bond (average intermediate-term) had a drawdown of '25.19% over just about the same period.

Well, OK, the difference between 20% and 25% is meaningful, but it should be weighed against other undesirable characteristics of long-term treasuries
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Re: SPY / TLT Portfolio [SPDR S&P 500 / iShares 20+ Year Treasury Bond]

Post by nedsaid » Sun Jul 24, 2016 11:31 am

runnerguy wrote:What are your thoughts on this 2 fund portfolio?

For those not familiar it is sp500 and long term treasuries. The 2 have a negative correlation. As a portfolio they've produced 9% returns with only a 20% draw down going back to 1972. I believe the Vanguard Wellington fund is largely based on these 2 asset classes as well.
Why not just buy Vanguard Wellington fund?
A fool and his money are good for business.

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Re: SPY / TLT Portfolio [SPDR S&P 500 / iShares 20+ Year Treasury Bond]

Post by dbr » Sun Jul 24, 2016 11:38 am

nedsaid wrote:
runnerguy wrote:What are your thoughts on this 2 fund portfolio?

For those not familiar it is sp500 and long term treasuries. The 2 have a negative correlation. As a portfolio they've produced 9% returns with only a 20% draw down going back to 1972. I believe the Vanguard Wellington fund is largely based on these 2 asset classes as well.
Why not just buy Vanguard Wellington fund?
Because Wellington does not use long term Treasuries. The fund is only 20% government bonds altogether and average duration is 7.1 years. The fund is 60% finance and/or industrial bonds. Average duration of Vanguard Long Term Treasury is 17.2 years. The OP is mistaken about Wellington but does have a legitimate question about whether long term bonds only makes sense. I don't think he has yet discussed the stock/bond allocation.

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Re: SPY / TLT Portfolio [SPDR S&P 500 / iShares 20+ Year Treasury Bond]

Post by nedsaid » Sun Jul 24, 2016 11:48 am

dbr wrote:
nedsaid wrote:
runnerguy wrote:What are your thoughts on this 2 fund portfolio?

For those not familiar it is sp500 and long term treasuries. The 2 have a negative correlation. As a portfolio they've produced 9% returns with only a 20% draw down going back to 1972. I believe the Vanguard Wellington fund is largely based on these 2 asset classes as well.
Why not just buy Vanguard Wellington fund?
Because Wellington does not use long term Treasuries. The fund is only 20% government bonds altogether and average duration is 7.1 years. The fund is 60% finance and/or industrial bonds. Average duration of Vanguard Long Term Treasury is 17.2 years. The OP is mistaken about Wellington but does have a legitimate question about whether long term bonds only makes sense. I don't think he has yet discussed the stock/bond allocation.
In that case, Wellington would be even better as it takes less risk on the bond side. An average duration of 7.1 years which is somewhat more than my Intermediate Term Bond funds which are 5-6 and my favorite GNMA fund which is about 3. So less risk than Long Term Treasuries but more risk than most Investment Grade Intermediate Term Bond funds. Wellington might be a good compromise.

The problem with this strategy is that interest rates won't always fall. I also remember the 1973-1974 bear market and the stagflation years of the 1970's which would have just killed this portfolio. Nearly zero correlation between stocks and long term treasuries doesn't always hold up.
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Re: SPY / TLT Portfolio [SPDR S&P 500 / iShares 20+ Year Treasury Bond]

Post by lack_ey » Sun Jul 24, 2016 11:58 am

nedsaid wrote:In that case, Wellington would be even better as it takes less risk on the bond side. An average duration of 7.1 years which is somewhat more than my Intermediate Term Bond funds which are 5-6 and my favorite GNMA fund which is about 3. So less risk than Long Term Treasuries but more risk than most Investment Grade Intermediate Term Bond funds. Wellington might be a good compromise.

The problem with this strategy is that interest rates won't always fall. I also remember the 1973-1974 bear market and the stagflation years of the 1970's which would have just killed this portfolio. Nearly zero correlation between stocks and long term treasuries doesn't always hold up.
But the point (I think... the Wellington reference is puzzling) as the OP mentioned is the "negative correlation" between the stock and bond parts. Treasuries would do that better. I don't think intermediate-long term corporate bonds would be less correlated with stocks than long-term Treasuries, not on average in the very least.

Of course it's not always going to be negative or even close to zero.

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Re: SPY / TLT Portfolio [SPDR S&P 500 / iShares 20+ Year Treasury Bond]

Post by dbr » Sun Jul 24, 2016 12:11 pm

lack_ey wrote:
nedsaid wrote:In that case, Wellington would be even better as it takes less risk on the bond side. An average duration of 7.1 years which is somewhat more than my Intermediate Term Bond funds which are 5-6 and my favorite GNMA fund which is about 3. So less risk than Long Term Treasuries but more risk than most Investment Grade Intermediate Term Bond funds. Wellington might be a good compromise.

The problem with this strategy is that interest rates won't always fall. I also remember the 1973-1974 bear market and the stagflation years of the 1970's which would have just killed this portfolio. Nearly zero correlation between stocks and long term treasuries doesn't always hold up.
But the point (I think... the Wellington reference is puzzling) as the OP mentioned is the "negative correlation" between the stock and bond parts. Treasuries would do that better. I don't think intermediate-long term corporate bonds would be less correlated with stocks than long-term Treasuries, not on average in the very least.

Of course it's not always going to be negative or even close to zero.
The OP was mistaken about Wellington, which is irrelevant to the discussion. The topic of the thread is a two fund portfolio blending S&P 500 and LT Treasuries. There is probably also a misunderstanding about negative correlation as distinct from little or no correlation.

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Re: SPY / TLT Portfolio [SPDR S&P 500 / iShares 20+ Year Treasury Bond]

Post by Blueskies123 » Sun Jul 24, 2016 12:17 pm

runnerguy wrote:What are your thoughts on this 2 fund portfolio?

For those not familiar it is sp500 and long term treasuries. The 2 have a negative correlation. As a portfolio they've produced 9% returns with only a 20% draw down going back to 1972. I believe the Vanguard Wellington fund is largely based on these 2 asset classes as well.
And what would happen to that correlation or the portfolio in a period of rapidly rising interest rates?
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Re: SPY / TLT Portfolio [SPDR S&P 500 / iShares 20+ Year Treasury Bond]

Post by nedsaid » Sun Jul 24, 2016 12:19 pm

lack_ey wrote:
nedsaid wrote:In that case, Wellington would be even better as it takes less risk on the bond side. An average duration of 7.1 years which is somewhat more than my Intermediate Term Bond funds which are 5-6 and my favorite GNMA fund which is about 3. So less risk than Long Term Treasuries but more risk than most Investment Grade Intermediate Term Bond funds. Wellington might be a good compromise.

The problem with this strategy is that interest rates won't always fall. I also remember the 1973-1974 bear market and the stagflation years of the 1970's which would have just killed this portfolio. Nearly zero correlation between stocks and long term treasuries doesn't always hold up.
But the point (I think... the Wellington reference is puzzling) as the OP mentioned is the "negative correlation" between the stock and bond parts. Treasuries would do that better. I don't think intermediate-long term corporate bonds would be less correlated with stocks than long-term Treasuries, not on average in the very least.

Of course it's not always going to be negative or even close to zero.
Yes, the correlation between stocks and long term treasuries will not always be negative or near zero. Correlations between asset classes are not static and change all the time. In really bad markets, correlation between asset classes tends to increase and on the way down. In other words, you don't always get the diversification benefits when you need them the most.

What I am saying is that Wellington would be a better strategy than what the original poster is proposing. I realize Wellington has a lot of corporates in it. The original poster is proposing risk on both the stock and bond sides of the portfolio, certain scenarios would just kill this portfolio like a big bump up in interest rates. Wellington moderates the risks on both sides of the portfolio, its bonds are a bit riskier than I like but much less risky than Long Term Treasuries.
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Re: SPY / TLT Portfolio [SPDR S&P 500 / iShares 20+ Year Treasury Bond]

Post by Kevin K » Sun Jul 24, 2016 1:43 pm

Also a lot better strategy than what the OP is proposing are approaches like the Permanent Portfolio and its Golden Butterfly iteration:

https://portfoliocharts.com/portfolio/golden-butterfly/

These use a "barbell" of half 30 year Treasuries, half short-term Treasuries for the bond allocation. Controversially (especially on these forums) they also have a significant allocation to the ultimate non-correlated asset, gold, but their performance over time and SWR's during retirement are in a league of their own. Bear in mind the returns shown in the link are real returns after inflation.

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Re: SPY / TLT Portfolio

Post by Dancer » Tue Jul 26, 2016 1:38 am

nisiprius wrote:
Day9 wrote:...Yes the long term correlation is close to zero, not negative. The correlation during financial crises, perhaps when it matters most, has been negative. And the correlation lately has been negative...
Yes, but you also have to ask: how much is that in dollars? Even when the correlation is negative, the standard deviation of treasuries aren't very high so they don't provide very strong opposition.

Very roughly, Vanguard 500 Index dropped about 50% during 2008-2009 and Vanguard Long-Term Treasury Fund rose about 20%. They didn't do it at the same time, exactly, and PortfolioVisualizer for 2007-2010 inclusive, a correlation of -0.40, which is a long way from -1.00 but, yeah, definitely negative.

But. 50% drop, only a 20% rise. That means to a first approximation that if you wanted your long-term bonds to protect you fully against a drop in your stocks, you couldn't hold any more than a 2/7 or 28% stock allocation.

A 50/50 mix of Vanguard 500 Index and Vanguard Long-Term Treasury Bond Fund had a maximum drawdown of -20.47%, occurring December 2007 to February 2009.

A 50/50 mix of Vanguard 500 Index and plain old Total Bond (average intermediate-term) had a drawdown of '25.19% over just about the same period.

Well, OK, the difference between 20% and 25% is meaningful, but it should be weighed against other undesirable characteristics of long-term treasuries
interesting -- while 20% better / 25% worse is nothing to sneeze at, I would have expected a bigger difference.

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