Pensionisten2024 wrote: ↑Sat Feb 03, 2024 12:31 am
I try to understand Global Aggregate Bonds.
https://www.ie.vanguard/products/etf/bo ... cumulating
I understand Treasury/Federal, Gov-Related-Sovereign and Corporate-Industrials bonds.
But can someone help me to understand these bonds?
- Securitized-Mortgage Backed Security Pass-through
- Corporate-Financial Institutions
- Gov-Related-Local Authority
- Securitized-Asset Backed Security
- Securitized-Commercial Mortgage Backed Security
Annette Thau The Bond Book
Larry Swedroe's book on bonds
David Swensen's book on personal investing (2nd edition) - the relevant chapters (not his institutional investing book)
Swedroe makes a strong case, for a US investor, that you only want straight US Treasury bonds. Swensen says something similar.
FNMA/ FMAC (Fannie Mae & Freddie Mac) bonds & GNMA (Ginnie Mae) are US "agency" bonds. They are backed by mortgages but there is a de facto guarantee from the US government of repayment. However they do have prepayment or extension risk. If interest rates fall, US mortgage holders can refinance their typically 15-30 year fixed rate mortgages at lower rates, with only limited penalties. If they rise, they don't refinance them as much as expected. You can see that right now, people are only taking out new mortgages to move, because mortgage rates have doubled. Thus the duration of the bonds (sensitivity to interest rates) moves against the investor - increases when interest rates rise, falls when interest rates fall. This is a risk that investors take on on these bonds - which is why Swedroe and Swensen argue against holding them.
Corporate bonds have credit risk which correlates with equity risk. For high yield bonds (sub investment grade ie below BBB-/ Baa3 ratings) this is magnified -- when the stock market goes down, these bonds go down.
Corporate bonds are also often callable. If interest rates fall, the borrower can opt to repay the bonds early, leaving the investor to reinvest the proceeds at a lower prevailing interest rate. That's not, generally, what you want as an investor. Again why Swedroe does not recommend them.
Municipal bonds have particular tax advantages for US taxpayers. Accordingly, most institutional investors (tax free) and foreign investors do not participate in these markets. State and local governments in other countries also borrow (Canada and Australia, for example) and it basically means taking on more credit risk than the parent country. Also more liquidity risk - it's not as easy for the fund to trade out of them.
I do not recommend holding Emerging Market bonds (which normally pay in USD, although some do in EUR). Too much macroeconomic risk eg if there is a financial crisis or a trade war (or a war war). You can be in a position where it all just goes horribly wrong, the IMF is called in, the fund will eventually get 40 or 50 cents on the dollar, say, after years of negotiation - Argentina has done this more than 11 times, I believe. There are some very high quality ones however - Singapore for example. Or South Korea (which is no longer an Emerging Market on some definitions).** But you can imagine wars or geopolitics which leave either country unable to pay their debts. The exception is "local" bonds where the country issues in its own currency for its domestic market. There probably are some high risk/ high return opportunities there. But that's a specialised game.
Differences for an international investor:
- their government may not be credit-risk free
- Italian government bonds are c. 45% of the Eurozone government bond index. I think that's too much risk - if you look at the yields, Italian Govt bonds (BTPs) are not risk free v German government bonds ie the market puts a significantly higher risk on them
Therefore I recommend that Eurozone investors hold a global government bond portfolio, Euro-hedged.
I have a similar view for British investors, because the duration of the gilt index is very long. So Global bonds, GBP hedged. Of course if interest rates fall, then you want to be in gilts. But after the 42 day administration of Prime Minister Liz Truss in autumn 2022, the Conservative
Party choice as leader, when gilt markets absolutely crashed, no one can say that we won't have another "Rambo" government - for example if the Opposition Party were in alliance with the SNP (Scottish Independence Party) -- that frightens the heck out of bond markets. GIlts were about the worst performing world bond market in 2022, I believe (c. minus 20% return).
For a Danish investor this is more difficult because I doubt you have the funds which are hedged back into DKR? Danish government bonds are mostly risk free. Danish mortgage backed bonds (Aktioncredit something, equivalent of German pfandbrief bonds) don't have the same issues re early repayment risk that you do with US Mortgage Backed Securities (AFAIK *only* US mortgage bonds have this risk ie up to 30 year fixed rates with early repayment or extension by the mortgage borrowers). On the other hand you do have concentrated exposure to Danish housing markets -- it's a small country, and I don't know anything about its housing market. However Norway and Sweden and Iceland all had serious banking crises around housing finance. So it is possible.
I would hold a global bond index fund, hedged back into EUR. If there wasn't a global government bond fund (investment grade only) then I would hold a global credit bond fund ie one which holds both corporate and government bonds. I will accept that higher credit risk (corporate bonds) to avoid overconcentration on the financial risk of a few issuers (governments).
** The memory of photos of South Korean women, during the 1997-98 Asia Crisis, queued up outside bank branches, to donate their gold wedding rings to be melted down, to sustain the nation's Gold Reserves
. If one knows of the sufferings of the Korean people: through brutal Japanese occupation, a bloody civil war & permanent division of their country, brutal dictatorships (both sides of the border). One sees a nation which... will survive. Anything but a nuclear war. That scene taught an important lesson about Korea and Koreans.