Two nice charts on default and duration risk

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jbolden1517
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Two nice charts on default and duration risk

Post by jbolden1517 » Tue Aug 15, 2017 5:25 pm

Saw these graphs at IFA (DFA advisor) and while nothing new thought they captured the argument for and against bond risk quite well:

duration risk:
Image

credit risk:
Image

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Portfolio7
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Re: Two nice charts on default and duration risk

Post by Portfolio7 » Tue Aug 15, 2017 5:53 pm

That first chart would mesh well with another thread that discussed how Fed policy resulted in the chart for Treasuries pretty much always being a straight line. I'm not smart enough to try to replicate all the essential elements of that discussion. The contrast with non-treasury bonds, and the mix there, is interesting, thanks for posting!
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MIpreRetirey
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Re: Two nice charts on default and duration risk

Post by MIpreRetirey » Tue Aug 15, 2017 8:00 pm

This is an open topic? :)

I was going to comment on my looking at HYCorp. for investing sense. But I wanted to see a correlating timeframe on these two charts.
I don't know why these data don't seem to jibe! Try to visually plot my data from portfolio visualizer with your second chart. What's wrong?

Code: Select all

Portfolio Returns    - 01/01/1984 - 12/31/2013
Portfolio performance statistics
#	Initial Balance	Final Balance	        CAGR	    Stdev
1	$10,000	         $56,899          	5.97%        2.35%              ST.Treas
2	$10,000	       $105,163 	        8.16% 	     7.99%              10yr.
3	$10,000	       $147,608 	        9.39%       10.20%              LT.Treas
data: portfolio visualizer.com


Image

Anyhow, I was going to say. I had been looking a while ago at VG's 4 dividend funds, and recently the HYCorp (VWEHX) fund. Trying to see how to get a free-ish ride out of the income yield, or capturing lesser volatility because of higher payouts or income yield. Well. Comparing these with the funds total returns, it becomes evident that all that matters is TR and volatility. It's that same story of 'you can spend the income or the NAV(TR with income reinvested)'--same difference--Makes no difference WHERE the TR comes from. Kind of weird; starting with the assumptions of income--(FREE income. :oops: )
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MIpreRetirey
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Re: Two nice charts on default and duration risk

Post by MIpreRetirey » Tue Aug 15, 2017 8:24 pm

And for Sharpe ratios: (I'm guessing VG's HYCorp - VWEHX would be the #4 fund in 2nd chart? Morn* calls the fund an avg. B rating.)
--from 01/1986 per VWEHX opening.--at least for PV data--

Code: Select all

ST.Treas. - .82
10 yr     - .48
LT.treas  - .49
VWEHX    -  .58
If SD is the 68% probability band, is SQRT(.68) = .825 the better than downside of SD?
Just don't know.
Last edited by MIpreRetirey on Tue Aug 15, 2017 8:40 pm, edited 1 time in total.
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jbolden1517
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Re: Two nice charts on default and duration risk

Post by jbolden1517 » Tue Aug 15, 2017 8:36 pm

MIpreRetirey wrote:
Tue Aug 15, 2017 8:00 pm
This is an open topic? :)

I was going to comment on my looking at HYCorp. for investing sense. But I wanted to see a correlating timeframe on these two charts.
I don't know why these data don't seem to jibe! Try to visually plot my data from portfolio visualizer with your second chart. What's wrong?

Code: Select all

Portfolio Returns    - 01/01/1984 - 12/31/2013
Portfolio performance statistics
#	Initial Balance	Final Balance	        CAGR	    Stdev
1	$10,000	         $56,899          	5.97%        2.35%              ST.Treas
2	$10,000	       $105,163 	        8.16% 	     7.99%              10yr.
3	$10,000	       $147,608 	        9.39%       10.20%              LT.Treas
data: portfolio visualizer.com
Well the entire thing would be a mix of the (1) from the second chart. All 3 types of treasuries have no credit risk, they just have varying duration risk. If you mean the first chart note the dates there are from 1928 not 1983. Your dates are wrong.
MIpreRetirey wrote:
Tue Aug 15, 2017 8:00 pm
Anyhow, I was going to say. I had been looking a while ago at VG's 4 dividend funds, and recently the HYCorp (VWEHX) fund. Trying to see how to get a free-ish ride out of the income yield, or capturing lesser volatility because of higher payouts or income yield. Well. Comparing these with the funds total returns, it becomes evident that all that matters is TR and volatility. It's that same story of 'you can spend the income or the NAV(TR with income reinvested)'--same difference--Makes no difference WHERE the TR comes from. Kind of weird; starting with the assumptions of income--(FREE income. :oops: )
There are a lot of people who would argue that. I think there is a distinction between income investors and accumulation investors. For accumulation investors annualized total return captures the volatility negatives nicely. So you can use arithmetic and volatility or geometric. For income investors you have a constant inflation adjusted draw (or something like that). Stability of return is more important than maximizing total return. Essentially you have the tail risk of of wanting to preserve a decent amount of money for the first 15 years until annuities make sense and the tail risk of not growing fast enough. That's where income really matters. Income is more stable than NAV. It helps shield against worst case really well.

I'm still trying to work out what the best way to handle this is, in terms of portfolio design.

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Re: Two nice charts on default and duration risk

Post by MIpreRetirey » Tue Aug 15, 2017 9:00 pm

jbolden1517 said:
Well the entire thing would be a mix of the (1) from the second chart. All 3 types of treasuries have no credit risk, they just have varying duration risk. If you mean the first chart note the dates there are from 1928 not 1983. Your dates are wrong.
Well, I did mean the 2nd chart to compare with. As in why the higher SDs for LT.Treas. But on 2nd thought --w/o investigating further, I suppose LT term risk might likely be greater than IT credit risk?
There are a lot of people who would argue that. I think there is a distinction between income investors and accumulation investors. For accumulation investors annualized total return captures the volatility negatives nicely. So you can use arithmetic and volatility or geometric. For income investors you have a constant inflation adjusted draw (or something like that). Stability of return is more important than maximizing total return. Essentially you have the tail risk of of wanting to preserve a decent amount of money for the first 15 years until annuities make sense and the tail risk of not growing fast enough. That's where income really matters. Income is more stable than NAV. It helps shield against worst case really well.

I'm still trying to work out what the best way to handle this is, in terms of portfolio design.
Me, too. Still investigating.
I also am curious for an intermed. term use of drawing down funds using a higher income producing fund. Using it quite like a term-certain immediate annuity. VWEHX's income, not reinvested, has been above 5% until 2016. The total price only return since 01/2001 cumulative is only -10.5%.
I don't know what's throwing me away. Just comparing TR with a less risky bal port; because TR and Vol. are what matters.
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MIpreRetirey
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Re: Two nice charts on default and duration risk

Post by MIpreRetirey » Tue Aug 15, 2017 9:07 pm

MIpreRetirey wrote:
Tue Aug 15, 2017 8:24 pm
And for Sharpe ratios: (I'm guessing VG's HYCorp - VWEHX would be the #4 fund in 2nd chart? Morn* calls the fund an avg. B rating.)
--from 01/1986 per VWEHX opening.--at least for PV data--

Code: Select all

ST.Treas. - .82
10 yr     - .48
LT.treas  - .49
VWEHX    -  .58
If SD is the 68% probability band, is SQRT(.68) = .825 the better than downside of SD?
Just don't know.

I'm wondering if in the case of credit risk bonds, the SD for credit is large and to the downside primarily --like in recessions. And the small 'term' type risk, well, is insignificant. Talking about HYCorp only.

Also, I've seen info stating there really is no distinguishing between downside vs upside SD; it's just a mirror of probability as in the coin toss? But, I think that might just be for stats in general, on all things non-financial? Looking at the ups and downs of VWEHX says it's ALL downside.

I guess what throws it for me is holding over a complete business/econ. cycle ; comparing that to a bal port. There's a bit hit to NAV in 2008. It does and usually should bounce back faster than equities. But, for a complete cycle, it's TR and Vol comparisons that'll pay--depending on what happens, though.
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jbolden1517
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Re: Two nice charts on default and duration risk

Post by jbolden1517 » Tue Aug 15, 2017 9:37 pm

MIpreRetirey wrote:
Tue Aug 15, 2017 9:00 pm
jbolden1517 wrote:Well the entire thing would be a mix of the (1) from the second chart. All 3 types of treasuries have no credit risk, they just have varying duration risk. If you mean the first chart note the dates there are from 1928 not 1983. Your dates are wrong.
Well, I did mean the 2nd chart to compare with. As in why the higher SDs for LT.Treas. But on 2nd thought --w/o investigating further, I suppose LT term risk might likely be greater than IT credit risk?
Long Term treasuries are pure duration risk and they often carry quite a lot of it. Longer term bad quality debt the credit risk and the duration risk pull in opposite directions. If treasury prices are going down that often means debt at lower interest rates will be easier to service and hence the credit risk lessons. Similarly in the opposite direction.

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triceratop
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Re: Two nice charts on default and duration risk

Post by triceratop » Tue Aug 15, 2017 9:59 pm

jbolden1517 wrote:
Tue Aug 15, 2017 9:37 pm
MIpreRetirey wrote:
Tue Aug 15, 2017 9:00 pm
jbolden1517 wrote:Well the entire thing would be a mix of the (1) from the second chart. All 3 types of treasuries have no credit risk, they just have varying duration risk. If you mean the first chart note the dates there are from 1928 not 1983. Your dates are wrong.
Well, I did mean the 2nd chart to compare with. As in why the higher SDs for LT.Treas. But on 2nd thought --w/o investigating further, I suppose LT term risk might likely be greater than IT credit risk?
Long Term treasuries are pure duration risk and they often carry quite a lot of it. Longer term bad quality debt the credit risk and the duration risk pull in opposite directions. If treasury prices are going down that often means debt at lower interest rates will be easier to service and hence the credit risk lessons. Similarly in the opposite direction.
Of course, the higher yields demanded on equivalent-maturity bad quality debt push the duration down quite a bit. But yes, your characterization is largely correct.
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MIpreRetirey
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Re: Two nice charts on default and duration risk

Post by MIpreRetirey » Tue Aug 15, 2017 10:01 pm

jbolden1517,
Ahh. It makes some sense to me. I prefer to look at a bigger picture.
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Ari
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Re: Two nice charts on default and duration risk

Post by Ari » Wed Aug 16, 2017 12:46 am

Am I wrong if I interpret these charts as "credit risk gives more return for the same amount of risk than does term risk"? Or even "corporate bonds give more return for the same amount of risk than does government bonds"? Point 1 on the second graph seems clearly superior to point 3 on the first.

But maybe one needs to consider correlation? Credit risk shows up at the same time as the stock market falls? Is this why people tend to recommend government bonds rather than corporates?

(I don't understand bonds much, since I'm one of those reckless 100%ers. :D )
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jbolden1517
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Re: Two nice charts on default and duration risk

Post by jbolden1517 » Thu Aug 17, 2017 2:57 pm

Ari wrote:
Wed Aug 16, 2017 12:46 am
[/code]Am I wrong if I interpret these charts as "credit risk gives more return for the same amount of risk than does term risk"? Or even "corporate bonds give more return for the same amount of risk than does government bonds"? Point 1 on the second graph seems clearly superior to point 3 on the first.
Note the two graphs are covering different years. (2) on the first graph matches approximately to (1) on the second graph.
longinvest wrote:
Wed Aug 16, 2017 8:57 am
But maybe one needs to consider correlation? Credit risk shows up at the same time as the stock market falls? Is this why people tend to recommend government bonds rather than corporates?
Generally when interest rates are well below 5% stocks and bonds anti-correlate. A rise in interest rates indicates stronger than expected economic activity. When interest rates are well above 5% they positively correlate. At this point bonds are becoming a competing investment. There is plenty of economic activity as long as interest rates don't rise to high.
Ari wrote:
Wed Aug 16, 2017 12:46 am
(I don't understand bonds much, since I'm one of those reckless 100%ers. :D )
Bonds are easier than stocks generally. The market is vastly more rationally (generally right now I think in Europe we are in a bond bubble). As a result things that are harder to compute with stocks become easier with bonds. Even if you never own a bond fund, strong recommend in getting a good handle on bond investing.

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