When stocks drop, which bond funds usually do best and worst?

Discuss all general (i.e. non-personal) investing questions and issues, investing news, and theory.
Post Reply
User avatar
tc101
Posts: 2927
Joined: Tue Feb 20, 2007 3:18 pm
Location: Atlanta - Retired in 2004 at age 54

When stocks drop, which bond funds usually do best and worst?

Post by tc101 » Mon Aug 14, 2017 1:53 pm

When stocks drop, which bond funds usually do best and worst?
. | The most important thing you should know about me is that I am not an expert.

DSInvestor
Posts: 10574
Joined: Sat Oct 04, 2008 11:42 am

Re: When stocks drop, which bond funds usually do best and worst?

Post by DSInvestor » Mon Aug 14, 2017 1:57 pm

You can check Vanguard's fund listings and adjust to show yearly returns. This display shows returns by year going back to 2007. This would show you how funds did in 2008/2009. I was happy with Total Bond Index's 5% gain in 2008 while stocks were taking a dive. I think treasury bond funds did pretty well in that time but some had wild swings up and down. e.g. Vanguard Long term Treasury was +22$% for 2008 and -12% for 2009. Intermediate Term Treasury was +13% for 2008 and -1.69 for 2009.
Last edited by DSInvestor on Mon Aug 14, 2017 2:00 pm, edited 1 time in total.

KyleAAA
Posts: 6322
Joined: Wed Jul 01, 2009 5:35 pm
Contact:

Re: When stocks drop, which bond funds usually do best and worst?

Post by KyleAAA » Mon Aug 14, 2017 1:58 pm

I'd guess treasuries would do best in a rush to safety, but I'm too lazy to actually check.

User avatar
SimpleGift
Posts: 2609
Joined: Tue Feb 08, 2011 3:45 pm
Location: Central Oregon

Re: When stocks drop, which bond funds usually do best and worst?

Post by SimpleGift » Mon Aug 14, 2017 2:36 pm

tc101 wrote:
Mon Aug 14, 2017 1:53 pm
When stocks drop, which bond funds usually do best and worst?
Clearly, Treasuries have historically provided the best portfolio protection during market corrections and periods of market stress (chart below) — and they will most likely continue to so. But other high-quality bonds (corporates, munis, international, etc.) have done almost as well. So Treasuries are a good choice to offset equity risk, but just not the only choice.

Bond categories that haven't helped historically are high-yield bonds and emerging market bonds.
Cordially, Todd

User avatar
tc101
Posts: 2927
Joined: Tue Feb 20, 2007 3:18 pm
Location: Atlanta - Retired in 2004 at age 54

Re: When stocks drop, which bond funds usually do best and worst?

Post by tc101 » Mon Aug 14, 2017 9:42 pm

How about short term vs intermediate term during a market down turn. Is there any pattern?
. | The most important thing you should know about me is that I am not an expert.

User avatar
zonto
Posts: 75
Joined: Tue Aug 24, 2010 3:45 pm
Location: Boston, MA

Re: When stocks drop, which bond funds usually do best and worst?

Post by zonto » Mon Aug 14, 2017 11:04 pm

Here's a link to a chart showing performance from January 1, 2008 to March 9, 2009 of Vanguard Short-Term Bond Index (VBISX), Vanguard Intermediate-Term Bond Index (VBILX), Vanguard Total Bond Market Index (VBMFX), and Vanguard Short-Term Treasury Index (VFISX): Morningstar bond performance chart. Keep in mind that in good times, the performance will likely be much different.

Portfolio Analyzer correlation between the above funds during the same January 1, 2008 to March 9, 2009 period: (link). Confirms what the first chart above showed: short-term treasuries had the lowest correlation with equities during the period and thus the highest return. Correlation from January 1, 2008 to present: (link)

One could also use the same links to investigate performance during the 2000-2002 bear. I'm going to bed.

jalbert
Posts: 2213
Joined: Fri Apr 10, 2015 12:29 am

Re: When stocks drop, which bond funds usually do best and worst?

Post by jalbert » Mon Aug 14, 2017 11:12 pm

tc101 wrote:
Mon Aug 14, 2017 1:53 pm
When stocks drop, which bond funds usually do best and worst?
Depends on why stocks drop-- if because of a sharp rise in inflation, short-term TIPs are likely to fare best. But in the disinflation of 2008/2009, long-term treasuries fared the best.
Risk is not a guarantor of return.

User avatar
SimpleGift
Posts: 2609
Joined: Tue Feb 08, 2011 3:45 pm
Location: Central Oregon

Re: When stocks drop, which bond funds usually do best and worst?

Post by SimpleGift » Mon Aug 14, 2017 11:56 pm

tc101 wrote:
Mon Aug 14, 2017 9:42 pm
How about short term vs intermediate term during a market down turn. Is there any pattern?
Looking at the market meltdown during the 2008-09 Financial Crisis, all durations of Vanguard Treasury Funds performed well (chart below). Short-term Treasuries were the steadiest (as always), though Intermediate and Long-Term Treasuries had greater returns through the period — but with higher interest rate risk and volatility.
  • Vanguard Short (blue), Intermediate (orange) and Long Term (green) Treasury Funds
    Image
    Source: Morningstar
All in all, Intermediate Treasuries provided a good combination of stability and return through this market crash.
Cordially, Todd

Theoretical
Posts: 1067
Joined: Tue Aug 19, 2014 10:09 pm

Re: When stocks drop, which bond funds usually do best and worst?

Post by Theoretical » Tue Aug 15, 2017 1:23 am

Using the data on the Simba sheet, long treasuries do amazingly well in deflationary/liquidity crunch situations like 2008 or the Depression. In time of rapid inflation, the humble 3 month T-bill actually has done a really good job of tracking inflationary spikes, and the exception proves the rule: interest rate caps forced by the government right after WWII ended.

Intermediate treasuries are a very good combination, especially for simplicity.

AlohaJoe
Posts: 2546
Joined: Mon Nov 26, 2007 2:00 pm
Location: Saigon, Vietnam

Re: When stocks drop, which bond funds usually do best and worst?

Post by AlohaJoe » Tue Aug 15, 2017 7:02 am

Simplegift wrote:
Mon Aug 14, 2017 2:36 pm
tc101 wrote:
Mon Aug 14, 2017 1:53 pm
When stocks drop, which bond funds usually do best and worst?
Clearly, Treasuries have historically provided the best portfolio protection during market corrections and periods of market stress (chart below)
I disagree with Vanguard's results :)

My answer to the OP is: no bonds usually "do best when stocks drop"; they are NOT correlated (positively or negatively). But if you have to pick one, it would be intermediate Treasuries.

If you look at monthly return correlations since 1919 and only look at months "when stocks drop" (i.e. have a negative monthly return) then the correlations are:

AAA corporates: 0.125
BAA corporates: 0.417
short term treasuries: -0.056
intermediate term treasuries: -0.098
long term treasuries: -0.080

But a -0.098 correlation doesn't mean they did "good" when stocks dropped! It means....you have no idea since they are uncorrelated.

Vanguard's results are tainted by overweighting the 2008 crash due to using such a short time period...which was definitely a "flight to quality". But as another poster pointed out there are lots of ways that stocks can drop and "flight to quality" is far from the only one.

I think it is Nisiprius that has often pointed out the fallacy of the "bonds go up when stocks go down" argument. The correlations above are just another entry in that line of argument.

And the "sweet spot" (such as it is) is definitely around the ~8 year maturity. Shorter than that and correlations increase. Longer than that and correlations increase. But we're still talking about "no correlation" not "do better".

In the above I looked at all months when stocks went down. But maybe someone will say "but we only care about BIG stock drops, even though the OP didn't actually say that". If you only look at months when stocks dropped by 10% or 20% (there's no difference once you reach stock monthly movements this extreme) the correlations change to

AAA corporates: 0.213
BAA corporates: 0.421
STT: -0.089
ITT: -0.137
LTT: -0.101

And I still say that -0.137 is not negative correlation enough to say they do "best when stocks drop" -- they are barely negatively correlated -- though I'd accept that others might disagree on that one.

aristotelian
Posts: 2990
Joined: Wed Jan 11, 2017 8:05 pm

Re: When stocks drop, which bond funds usually do best and worst?

Post by aristotelian » Tue Aug 15, 2017 7:29 am

^Sure but a slight negative correlation is a lot better than any positive correlation I'm the midst of a stock crash. The only way to ensure 100% negative correlation is a reverse S&P fund, but those are expensive and just cancel out your gains in bull markets. I think we agree, bottom line is intermediate and long Treasuries are the best bet. While long might be best in a crash, they are most sensitive to interest rates. I see intermediate Treasury as the best combination of stabity and negative correlation.

lazyday
Posts: 3009
Joined: Wed Mar 14, 2007 10:27 pm

Re: When stocks drop, which bond funds usually do best and worst?

Post by lazyday » Tue Aug 15, 2017 8:09 am

AlohaJoe wrote:
Tue Aug 15, 2017 7:02 am
In the above I looked at all months when stocks went down. But maybe someone will say "but we only care about BIG stock drops, even though the OP didn't actually say that".
For ST vs IT vs LT, I think I care more about big drawdowns, so periods where from peak to bottom, equities lost more than say 33% real. (this is not a request! :) ) Rolling returns might get close enough to that, and have probably already been studied.

I thought Larry found LT Treasuries best for a portfolio with high equity, but don't know what research he was using.

AlohaJoe
Posts: 2546
Joined: Mon Nov 26, 2007 2:00 pm
Location: Saigon, Vietnam

Re: When stocks drop, which bond funds usually do best and worst?

Post by AlohaJoe » Tue Aug 15, 2017 8:28 am

lazyday wrote:
Tue Aug 15, 2017 8:09 am
I think I care more about big drawdowns, so periods where from peak to bottom, equities lost more than say 33% real.
Sure but scenarios like that are so rare that no meaningful conclusions can really be drawn. It is akin to "I flipped a coin 4 times and it came up heads 3 times, so heads is more likely than tails".

(I think there have only been 4 drawdowns of 33% in the past 180 years in the US.)

lazyday
Posts: 3009
Joined: Wed Mar 14, 2007 10:27 pm

Re: When stocks drop, which bond funds usually do best and worst?

Post by lazyday » Tue Aug 15, 2017 9:12 am

AlohaJoe wrote:
Tue Aug 15, 2017 8:28 am
lazyday wrote:
Tue Aug 15, 2017 8:09 am
I think I care more about big drawdowns, so periods where from peak to bottom, equities lost more than say 33% real.
Sure but scenarios like that are so rare that no meaningful conclusions can really be drawn. It is akin to "I flipped a coin 4 times and it came up heads 3 times, so heads is more likely than tails".

(I think there have only been 4 drawdowns of 33% in the past 180 years in the US.)
Oh... well... 25% then?

I think in the 2008-9 drawdown, EDV (extended duration ETF) did better than LT, which did better than IT, which did better than ST. By a lot.

If that pattern held every time, over a handful of big drawdowns, that might mean something. But I guess there was probably a big enough drawdown with unexpectedly high inflation sometime in the 70s or 80s, to make a counterexample.

User avatar
SimpleGift
Posts: 2609
Joined: Tue Feb 08, 2011 3:45 pm
Location: Central Oregon

Re: When stocks drop, which bond funds usually do best and worst?

Post by SimpleGift » Tue Aug 15, 2017 9:22 am

AlohaJoe wrote:
Tue Aug 15, 2017 7:02 am
I disagree with Vanguard's results :)

My answer to the OP is: no bonds usually "do best when stocks drop"; they are NOT correlated (positively or negatively). But if you have to pick one, it would be intermediate Treasuries.
Your point on correlations is well taken. But it's worth noting that the Vanguard research did not look at correlations, but rather “median monthly asset-class returns during periods of bottom-decile returns for U.S. equities, 1988-2012.” So if one is going to look back to 1919, to be comparable with Vanguard’s results, one would report actual bond returns and not correlations.

If it’s available, the actual bond return data when stocks drop by 10%-20% would be interesting to see — and would avoid the uncertainty problem you suggest around correlations.
Cordially, Todd

User avatar
Munir
Posts: 2337
Joined: Mon Feb 26, 2007 4:39 pm
Location: Oregon

Re: When stocks drop, which bond funds usually do best and worst?

Post by Munir » Tue Aug 15, 2017 9:27 am

Why would one care about the short-term behavior of a bond fund during an acute drop in the equity market if one can stay the course and not engage in panic selling of either one? I care more for the longer term behavior of a bond fund (i.e. at least 2-3 years for me) than what happens over a few months. This was demonstrated in 2008-2009 when the corporate bond funds showed a transient negative return in 2008 while treasuries were positive but the roles reversed in 2009 and corporates more than recovered all their 2008 losses. Why should I worry about the short-term results of my bond funds to such short-term fluctuations in the equity market unless I am a market-timer? Aren't the longer performance numbers for comparing bond funds more significant than those occurring at the time of the panic selling of equity markets?

lazyday
Posts: 3009
Joined: Wed Mar 14, 2007 10:27 pm

Re: When stocks drop, which bond funds usually do best and worst?

Post by lazyday » Tue Aug 15, 2017 9:43 am

A retiree should probably care about what might produce the highest SWR, if that were available.

I'm imagining a 50%+ market drop, either for someone retired or who lost their job. Selling depressed stocks to live could quickly deplete assets. This might be prevented by either rebalancing from Treasuries to equities, or by spending primarily from FI instead of equities in a deep extended downturn.

AlohaJoe
Posts: 2546
Joined: Mon Nov 26, 2007 2:00 pm
Location: Saigon, Vietnam

Re: When stocks drop, which bond funds usually do best and worst?

Post by AlohaJoe » Tue Aug 15, 2017 10:04 am

Simplegift wrote:
Tue Aug 15, 2017 9:22 am
If it’s available, the actual bond return data when stocks drop by 10%-20% would be interesting to see — and would avoid the uncertainty problem you suggest around correlations.
("3-1" means a Treasury bond fund with the longest maturity of 3 years and the shortest maturity of 1 year; so you can see how various maturities affect things)

Median monthly return in the month when stocks drop (i.e. any amount <0):

AAA Returns 0.002802
BAA Returns 0.002633
S&P 500 Returns -0.020072
3-1 0.003031
10-1 0.003469
10-4 0.003181
10-10 0.004089

When stocks drop (at least) 5%:

AAA Returns 0.000412
BAA Returns -0.004337
S&P 500 Returns -0.079384
3-1 0.004201
10-1 0.003787
10-4 0.004343
10-10 0.004484

When stocks drop (at least) 10%:

AAA Returns -0.000664
BAA Returns -0.011207
S&P 500 Returns -0.122771
3-1 0.004056
10-1 0.004896
10-4 0.004791
10-10 0.004791

Interesting (to me, at least):

Even when stocks drop 5%, corporate bonds are still positive.

Which duration is "best" and "worst" is a bit all over the place, depending on the cut-off used for the stock drop. The short duration (3-1) is worst for 0% cutoff; pretty good for 5% cutoff; and then worst again for 10% cutoff. Long duration is best for 0% and 5% but not for 10%.

Even with a 10% cutoff, corporate bonds (AAA) doesn't really see you losing any money (an annualised rate of return of -0.7% isn't much), at least in nominal terms.

edit: I forgot to include long Treasuries and I'm too lazy to rerun it again right now)

User avatar
tc101
Posts: 2927
Joined: Tue Feb 20, 2007 3:18 pm
Location: Atlanta - Retired in 2004 at age 54

Re: When stocks drop, which bond funds usually do best and worst?

Post by tc101 » Tue Aug 15, 2017 10:08 am

Several years ago, one of the experts here, maybe Larry, said total bond market fund was not a good idea because GNMA is more positively linked to stocks and and in a stock downturn will go down more. Does anyone here agree with this?
. | The most important thing you should know about me is that I am not an expert.

User avatar
SimpleGift
Posts: 2609
Joined: Tue Feb 08, 2011 3:45 pm
Location: Central Oregon

Re: When stocks drop, which bond funds usually do best and worst?

Post by SimpleGift » Tue Aug 15, 2017 10:27 am

AlohaJoe wrote:
Tue Aug 15, 2017 10:04 am
Which duration is "best" and "worst" is a bit all over the place, depending on the cut-off used for the stock drop.
Thanks, AlohaJoe. One confounding aspect of the historical U.S. bond data before about 1970 is that the yield curve was often inverted — i.e, negatively-sloped, with short bonds yielding more than long bonds — due to persistent deflation expectations. This post looked at this phenomenon in yields spreads of the Shiller data, 1871-2016.

Only since about 1980 have we seen constant expectations for inflation and a consistently positively-sloped yield curve (recessions aside). As for the OP's question, nothing in this thread so far suggests that intermediate-term Treasuries won't likely be the best insurance policy against market drops going forward.
Cordially, Todd

User avatar
tc101
Posts: 2927
Joined: Tue Feb 20, 2007 3:18 pm
Location: Atlanta - Retired in 2004 at age 54

Re: When stocks drop, which bond funds usually do best and worst?

Post by tc101 » Tue Aug 15, 2017 12:49 pm

As for the OP's question, nothing in this thread so far suggests that intermediate-term Treasuries won't likely be the best insurance policy against market drops going forward.
Vanguard has CDs with maturities of up to 10 years, with higher yields than 10 year treasuries, so I think a CD ladder could be a little better than intermediate treasuries.
. | The most important thing you should know about me is that I am not an expert.

jalbert
Posts: 2213
Joined: Fri Apr 10, 2015 12:29 am

Re: When stocks drop, which bond funds usually do best and worst?

Post by jalbert » Tue Aug 15, 2017 12:56 pm

All in all, Intermediate Treasuries provided a good combination of stability and return through this market crash.
The graph corroborates the view some people have that term risk is not compensated in long-term bonds. Institutional investors who buy long bonds (e.g. insurance companies and pension administrators) match the duration of their nominal bond assets to the duration of their nominal liabilities. Because both then move in lockstep, the term risk goes away, and they are willing to pay more for long-term bonds than an investor who needs to be compensated for taking term risk, hence the yield is muted for the term of the bond.

This may be a flaw in the strategy of holding a total bond market index, and may explain why holding 80% vbilx (intermediate bond index fund) and 20% vfijx (GNMA fund) has a higher yield than vbtlx (total bond index fund) but with similar term risk.
Risk is not a guarantor of return.

User avatar
SimpleGift
Posts: 2609
Joined: Tue Feb 08, 2011 3:45 pm
Location: Central Oregon

Re: When stocks drop, which bond funds usually do best and worst?

Post by SimpleGift » Tue Aug 15, 2017 2:59 pm

tc101 wrote:
Tue Aug 15, 2017 10:08 am
Several years ago, one of the experts here, maybe Larry, said total bond market fund was not a good idea because GNMA is more positively linked to stocks and and in a stock downturn will go down more. Does anyone here agree with this?
Looking at the 2008-09 Financial Crisis, Vanguard’s GNMA Fund didn’t perform too badly (chart below). Certainly not as well as Intermediate Treasuries, but it didn’t appear to display much “stock like” risk, like the Interm. Investment Grade Fund did.
  • Vanguard GNMA (blue), Interm. Treasury (orange) & Interm. Investment Grade (green)
    Image
    Source: Morningstar
Vanguard GNMA is a fund that’s been around since 1980, so if interested, one could check out its Morningstar performance chart in other past market meltdowns, to get a better sense of GNMA bonds' historical behavior.
Cordially, Todd

Miriam2
Posts: 1741
Joined: Fri Nov 14, 2014 11:51 am

Re: When stocks drop, which bond funds usually do best and worst?

Post by Miriam2 » Tue Aug 15, 2017 3:18 pm

Simplegift wrote:
Mon Aug 14, 2017 11:56 pm
Looking at the market meltdown during the 2008-09 Financial Crisis, all durations of Vanguard Treasury Funds performed well . . . All in all, Intermediate Treasuries provided a good combination of stability and return through this market crash.
Theoretical wrote:
Tue Aug 15, 2017 1:23 am
Intermediate treasuries are a very good combination, especially for simplicity.
Is the DFA Intermediate Government Fixed Income I Fund (DFIGX) such an Intermediate Treasury fund?

My son has it in his 401k. Just trying to learn what this fund is :happy

User avatar
SimpleGift
Posts: 2609
Joined: Tue Feb 08, 2011 3:45 pm
Location: Central Oregon

Re: When stocks drop, which bond funds usually do best and worst?

Post by SimpleGift » Tue Aug 15, 2017 3:28 pm

Miriam2 wrote:
Tue Aug 15, 2017 3:18 pm
Is the DFA Intermediate Government Fixed Income I Fund (DFIGX) such an Intermediate Treasury fund?
Yes, mostly. With an average duration of 6 years it’s definitely an intermediate-term bond fund, and it’s invested 90% in U.S. Government bonds. It appears to have some leeway to invest beyond just Treasuries, in agency bonds, dollar-denominated AAA foreign government bonds, etc. (see quote below). But because it holds just high-quality bonds, it should do well in the kind of “flight to safety,” market meltdown episodes being discussed in this thread.
DFA wrote:The investment seeks current income consistent with preservation of capital. The fund primarily invests in high quality, low-risk obligations of the U.S. government and its agencies with maturities between five and fifteen years. It normally invests in noncallable obligations issued or guaranteed by the U.S. government and U.S. government agencies, AAA-rated, dollar-denominated obligations of foreign governments, obligations of supranational organizations, and futures contracts on U.S. Treasury securities.
Cordially, Todd

Miriam2
Posts: 1741
Joined: Fri Nov 14, 2014 11:51 am

Re: When stocks drop, which bond funds usually do best and worst?

Post by Miriam2 » Tue Aug 15, 2017 3:34 pm

Simplegift wrote:
Tue Aug 15, 2017 3:28 pm
Miriam2 wrote:
Tue Aug 15, 2017 3:18 pm
Is the DFA Intermediate Government Fixed Income I Fund (DFIGX) such an Intermediate Treasury fund?
Yes, mostly. With an average duration of 6 years it’s definitely an intermediate-term bond fund, and it’s invested 90% in U.S. Government bonds. It appears to have some leeway to invest beyond just Treasuries, in agency bonds, dollar-denominated AAA foreign government bonds, etc. (see quote below). But because it holds just high-quality bonds, it should do well in the kind of “flight to safety,” market meltdown episodes being discussed in this thread.
Thank you :happy

Post Reply