Is holding bonds now dangerous?

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BogleBoogie
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Re: Is holding bonds now dangerous?

Post by BogleBoogie » Thu Nov 23, 2017 9:34 pm

I wouldn't consider holding bonds dangerous...driving on the highway while not wearing a seatbelt, now that is dangerous.

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randomizer
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Re: Is holding bonds now dangerous?

Post by randomizer » Fri Nov 24, 2017 1:22 am

TropikThunder wrote:
Thu Nov 23, 2017 9:29 pm
jainn wrote:
Sun Nov 19, 2017 11:44 am
Is there a study or white paper showing a portfolio of 70% stocks and 30% bonds, produces 90% of the 100% stock return and exactly how much less volatility?
From Portfolio Visualizer: Blue is 100% VTSMX (Vanguard Total Stock) and Red is 70% VTSMX/30% VBMFX (Vanguard Total Bond).

Image

https://www.portfoliovisualizer.com/bac ... sisResults

- CAGR for 70/30 is 8.63%, which is 90.7% of that for 100% VTSMX (9.51%)
- Volatility (as measured by Standard Deviation) for the 70/30 is 10.12%, which is 69.5% of that for 100% VTSMX (14.57%)

So, 90% of the return with only 70% of the volatility.
90% of the return sounds pretty good, but compounded over time the gap doesn't look so pretty.
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TomatoTomahto
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Re: Is holding bonds now dangerous?

Post by TomatoTomahto » Fri Nov 24, 2017 7:32 am

randomizer wrote:
Fri Nov 24, 2017 1:22 am
90% of the return sounds pretty good, but compounded over time the gap doesn't look so pretty.
Equities have had quite a nice run, but I wouldn’t be surprised to see the red and blue lines closer together again in the future. You’ll note that the gap was reduced in the past.

bgf
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Re: Is holding bonds now dangerous?

Post by bgf » Fri Nov 24, 2017 7:33 am

randomizer wrote:
Fri Nov 24, 2017 1:22 am
TropikThunder wrote:
Thu Nov 23, 2017 9:29 pm
jainn wrote:
Sun Nov 19, 2017 11:44 am
Is there a study or white paper showing a portfolio of 70% stocks and 30% bonds, produces 90% of the 100% stock return and exactly how much less volatility?
From Portfolio Visualizer: Blue is 100% VTSMX (Vanguard Total Stock) and Red is 70% VTSMX/30% VBMFX (Vanguard Total Bond).

Image

https://www.portfoliovisualizer.com/bac ... sisResults

- CAGR for 70/30 is 8.63%, which is 90.7% of that for 100% VTSMX (9.51%)
- Volatility (as measured by Standard Deviation) for the 70/30 is 10.12%, which is 69.5% of that for 100% VTSMX (14.57%)

So, 90% of the return with only 70% of the volatility.
90% of the return sounds pretty good, but compounded over time the gap doesn't look so pretty.
i don't value volatility at 3x investment return. that was not a bargain i would have struck ahead of time, e.g., i'll pay you 10% of my returns in exchange for 30% lower volatility of my portfolio.

no telling what that correlation will be over the next 30 years. could be very different.
“TE OCCIDERE POSSUNT SED TE EDERE NON POSSUNT NEFAS EST"

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willthrill81
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Re: Is holding bonds now dangerous?

Post by willthrill81 » Fri Nov 24, 2017 10:35 am

bgf wrote:
Fri Nov 24, 2017 7:33 am
randomizer wrote:
Fri Nov 24, 2017 1:22 am
TropikThunder wrote:
Thu Nov 23, 2017 9:29 pm
jainn wrote:
Sun Nov 19, 2017 11:44 am
Is there a study or white paper showing a portfolio of 70% stocks and 30% bonds, produces 90% of the 100% stock return and exactly how much less volatility?
From Portfolio Visualizer: Blue is 100% VTSMX (Vanguard Total Stock) and Red is 70% VTSMX/30% VBMFX (Vanguard Total Bond).

Image

https://www.portfoliovisualizer.com/bac ... sisResults

- CAGR for 70/30 is 8.63%, which is 90.7% of that for 100% VTSMX (9.51%)
- Volatility (as measured by Standard Deviation) for the 70/30 is 10.12%, which is 69.5% of that for 100% VTSMX (14.57%)

So, 90% of the return with only 70% of the volatility.
90% of the return sounds pretty good, but compounded over time the gap doesn't look so pretty.
i don't value volatility at 3x investment return. that was not a bargain i would have struck ahead of time, e.g., i'll pay you 10% of my returns in exchange for 30% lower volatility of my portfolio.

no telling what that correlation will be over the next 30 years. could be very different.
Keep in mind as well that upside volatility will also increase the standard deviation, yet no one complains about erratic yet robustly positive returns.

The more data I examine, the less I believe that standard deviation is a worthwhile metric for investors to use at all. I think that 'worst year's returns' and 'maximum drawdown' are much more useful and very likely more predictive of investors' behavior.
“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

bgf
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Re: Is holding bonds now dangerous?

Post by bgf » Fri Nov 24, 2017 11:37 am

willthrill81 wrote:
Fri Nov 24, 2017 10:35 am
Keep in mind as well that upside volatility will also increase the standard deviation, yet no one complains about erratic yet robustly positive returns.

The more data I examine, the less I believe that standard deviation is a worthwhile metric for investors to use at all. I think that 'worst year's returns' and 'maximum drawdown' are much more useful and very likely more predictive of investors' behavior.
correct. my comment would have been more accurate if i'd clarified that i was talking about downside volatility.

so long as markets are subject to leverage, simple and complex derivatives, feedback loops, and generally the whims of human behavior, overreliance on those statistical tools, standard deviation, regression, covariance, correlation, etc. are going to cause problems.

the bogleheads strategy is excellent with respect to eliminating much of the errors of human behavior (passive, diversified investments, buy and hold/dca, etc.), but when people start whipping out charts and historic data to show 'optimized' or 'efficient' portfolios, i just completely ignore it.
“TE OCCIDERE POSSUNT SED TE EDERE NON POSSUNT NEFAS EST"

HenrysPlan2
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Re: Is holding bonds now dangerous?

Post by HenrysPlan2 » Thu Jan 11, 2018 9:29 pm

nisiprius wrote:
Sat Nov 18, 2017 12:32 pm
UncleLongHair wrote:
Sat Nov 18, 2017 11:54 am
...The relationship between yield and bonds is pretty straightforward, this isn't something that I made up, it is taught in freshman finance and is the basis of fixed income markets worldwide. Surprised this is a topic of discussion. Sure over periods of a year or two anything can happen, especially in a bond fund where bonds can be bought and sold and rebalanced. If you think bonds are going to do well if long term rates rise from 2% to 6% then I think you're in for a surprise...
Well, we can do a simulation. You weren't too specific, but let's say we are talking about a rotating bond ladder with a duration of 6 years, i.e. about the same as Total Bond, under a scenario where the rate that applies to the bonds in the ladder start out at 2% and rise to 6% over a period of four years. The value shown is total value including reinvested bond interest, and assumes that the reinvested interest can be reinvested to buy more of the same portfolio. Bonds are assumed to be bought at issue, at par, and held to maturity.
  • The bond portfolio grows slowly and steadily from $1,000 to $1,231 until the interest rate rises hits.
  • While the interest rate is rising, the portfolio continuously loses value and reaches a minimum $1,138, i.e. a -8% loss.
  • When the interest rate levels off, the portfolio starts to gain again.
  • It makes back the lost ground in about two more years.
  • By about year #18, i.e. 8 years after the start of the interest rate increase, it is ahead of where it would have been if here had been no rate increase.
  • It is now growing faster than it did before the rate increase. If the investor had a time horizon of at least ten years, she is better off than if there had been no rate increase
Image

I think bond funds will do perfectly well under a rise in rates from 2% to 6%, if they are intermediate-term investment-grade bonds and if your holding time is on the order of ten years or so. That isn't to say some other strategy might not do better.
[*]While the interest rate is rising, the portfolio continuously loses value and reaches a minimum $1,138, i.e. a -8% loss.
[*]When the interest rate levels off, the portfolio starts to gain again.

how do you know when the interest rate levels off, the bond will start to gain again? if the interest rate stays at 6%, why people buy your bond with 2%?

lack_ey
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Re: Is holding bonds now dangerous?

Post by lack_ey » Thu Jan 11, 2018 9:54 pm

HenrysPlan2 wrote:
Thu Jan 11, 2018 9:29 pm
[*]While the interest rate is rising, the portfolio continuously loses value and reaches a minimum $1,138, i.e. a -8% loss.
[*]When the interest rate levels off, the portfolio starts to gain again.

how do you know when the interest rate levels off, the bond will start to gain again? if the interest rate stays at 6%, why people buy your bond with 2%?
First of all, "the bond" is not an accurate depiction of the scenario under consideration (there are multiple bonds involved), so I think it's worth checking if it was just a sloppy description or you missed the fact that this was a bond ladder and not a single bond.

I have not independently verified it, but assuming nisiprius did the simulation and math correctly, there's no ambiguity in terms of the portfolio value over time. It should be exactly as described based on the very specific, contrived conditions.

As described, nobody is buying the old bonds with the 2% coupons, as the bonds are let to mature. But that's irrelevant in the sense that once the interest rate is X% (remember, this is assumed to apply to all of the bonds, so implicitly the yield curve is flat), the yield on those bonds are all X%.

If a 5-year bond is issued at $1,000 with a semiannual coupon of 2% ($10 every 6 months), and overnight rates spike up and 5-year bonds of the same quality now yield 4%, the price of that initial 5-year bond has now dropped to $910.17 relative to $1,000 par (-8.98%). But now that bond has a yield of 4%, including both the price movement towards par (it'll pay out $1000 in 5 years, higher than the $910.17 it's worth now) and the $10 every 6 months.

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Phineas J. Whoopee
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Re: Is holding bonds now dangerous?

Post by Phineas J. Whoopee » Fri Jan 12, 2018 8:30 pm

How can there be a 30 - 40 year bull market in securities which mature in no more than 30 years, with many issues maturing in less time than that? As investment-grade bonds approach maturity their market prices must of necessity approach their face values. If they were at a premium before, the decline as they approach maturity is built in, not a market artifact.

How much should I pay, and how much would you accept, for an investment-grade 30-year $1000 face value bond that matures tomorrow?

PJW

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saltycaper
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Re: Is holding bonds now dangerous?

Post by saltycaper » Sat Jan 13, 2018 1:21 am

Phineas J. Whoopee wrote:
Fri Jan 12, 2018 8:30 pm
How can there be a 30 - 40 year bull market in securities which mature in no more than 30 years, with many issues maturing in less time than that? As investment-grade bonds approach maturity their market prices must of necessity approach their face values. If they were at a premium before, the decline as they approach maturity is built in, not a market artifact.
If funds sell bonds before they mature, which usually they do as I understand it, they will wind up selling bonds at a premium if the yield curve is normal and does not change from the time a bond is purchased until the time a bond is sold. Right? If the yield curve is normal but shifts downward from the time a bond is purchased until the time a bond is sold, the premium will be even larger. Right? With some exceptions, this was the general trend from about 1981 to 2012.

I agree the term bull market doesn't fit well, since it doesn't take into consideration real versus nominal rates and whether investors would have been better off had nominal yields not fallen. Another reason it awkwardly may be called a bull market is if inflation trended downward at a faster rate than inflation expectations, since that would boost real returns. I believe that was the case for much of the period in question as well.

The term may not make any sense, but I think that's how the bond bull market got its name. More simply, here's an inflation-adjusted PV chart of Vanguard Long-Term Treasury Fund Investor Shares (VUSTX). If at some point in the future we can look back and see when the balance started trending in the other direction, that's when the bond bull market was over.

Image
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Call_Me_Op
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Re: Is holding bonds now dangerous?

Post by Call_Me_Op » Sat Jan 13, 2018 7:42 am

willthrill81 wrote:
Sun Nov 19, 2017 8:51 pm
Call_Me_Op wrote:
Sun Nov 19, 2017 8:27 am
Stocks are much riskier than bonds. This statement summarizes the situation.
That statement depends entirely on the situation and the time frame in which they are held, in addition to what is meant by 'risk'.

In the short-term, stocks have been more volatile.

In the long-term, bonds have been more volatile in terms of their ability to preserve (never mind increase) purchasing power.
Certainly. My statement was in response to my perception of the definition of risk used by the OP - which is the risk of losing a lot of money in a relatively short time period.
Best regards, -Op | | "In the middle of difficulty lies opportunity." Einstein

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in_reality
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Re: Is holding bonds now dangerous?

Post by in_reality » Sat Jan 13, 2018 9:03 am

We have 50% Fixed income (wife’s insistence).

I try to cope mentally by noting:

1) much of it is over the long term inflation average (CDs)
2) the Fed (and other central banks) is much more cognizant of inflation now than the 70s/80s。
3) demographic trends of the industrialized world seem to be a restraint on inflation
4) I’m not really counting on real returns. Break even is fine, and 1% would be wow!

Those thoughts aside, the only reason I don’t fight for a higher stock allocation is that in an economic, job-destroying crash, it would harder now being older to uproot the family and change plans.

Bonds (I avoid corporates and credit risk) give us a buffer by holding value allowing us to not sell equities.

Still I hate fixed income and console my self by making a table showing my portfolio with current equities values and 20% bonds. That means I am ignore 30 percent of my portfolio like it doesn’t exist and I feel good having a 80-20% allocation. Actually I do the same for 100%-0% and 90%-10%.

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Lauretta
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Re: Is holding bonds now dangerous?

Post by Lauretta » Sat Jan 13, 2018 10:18 am

UncleLongHair wrote:
Sat Nov 18, 2017 7:56 am

However with interest rates near zero and in some cases below zero, it seems that they can only go up.
Rates in the US could still go down in theory: look at EU rates... :wink:
Having said that, I like Buffett's description (from a few years ago): “Bonds promoted as offering risk-free returns are now priced to deliver return-free risk.” I also saw a Tweet by o'Shaughnessy that I liked, and that went something like: 'they say there are no certainties in investing, but if you invest in bonds you can be certain to lose money'.
My opinion is that if your time horizon is long enough it's much better to be in stocks; for the money I need in the shorter term I use structured products that guarantee my capital, as well as bank deposits - these are the best things available to me in the Eurozone.
When everyone is thinking the same, no one is thinking at all

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