First 20% of bonds in long-term Treasuries

Discuss all general (i.e. non-personal) investing questions and issues, investing news, and theory.
User avatar
Topic Author
vineviz
Posts: 7653
Joined: Tue May 15, 2018 1:55 pm

Re: First 20% of bonds in long-term Treasuries

Post by vineviz »

international001 wrote: Sun Sep 13, 2020 5:10 pm
vineviz wrote: Mon Sep 07, 2020 11:29 am
Total Bond has more credit/default risk and, for a long-term investor, Total Bond has MORE interest rate risk than LTTs.

Can you explain this? I thought interest rate risk was basically related to the maturity length of the bond. So anything LT should have a higher rate interest risk
Despite the VERY common practice of referring to bonds as having interest rate risk, it's important to acknowledge that interest rate risk is something investors have. And the AMOUNT of interest rate risk they face is proportional to the difference between the investor's investment time horizon and the duration of the bonds they hold.

A long-term investor is more exposed to interest rate risk if they own short-term bonds than if they own long-term bonds.

A short-term investor is more exposed to interest rate risk if they own long-term bonds bonds than if they own short-term bonds.

This is because interest rate risk actually has two forces, price risk and reinvestment risk, that move in opposite directions. The power of these forces
is balanced (i.e. neutralized) when the bond portfolio's average duration exactly matches the time horizon of the investor.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
international001
Posts: 1569
Joined: Thu Feb 15, 2018 7:31 pm

Re: First 20% of bonds in long-term Treasuries

Post by international001 »

For a long term investor, investing on LTT doesn't bring more risk? Understand risk as variation of results after your investment horizon
short term rates may change, but so do long term rates, and they may make your investment swing wildly.
Looking at a LTT fund, you typically end up with more returns and more risk over the long term
User avatar
Topic Author
vineviz
Posts: 7653
Joined: Tue May 15, 2018 1:55 pm

Re: First 20% of bonds in long-term Treasuries

Post by vineviz »

international001 wrote: Mon Sep 14, 2020 9:01 am For a long term investor, investing on LTT doesn't bring more risk?
If we're talking specifically about "interest rate risk", then the answer is "no, it doesn't bring more risk".

The definition of a risk is "an uncertain event that, if it occurs, has a negative impact on your objective". With interest rate risk, the "uncertain event" is a change in rates. Bond math dictates that there can be NO uncertainty about the ending value of the bond over a period of time equal to its duration. Imagine you buy $10,000 worth of bonds today that are yielding 2% and have a duration of 20 years: if you reinvest the bond payments back into the same bond over that 20 year period, you will own EXACTLY $14,859 worth of bonds at the end of that 20 year period. There are are some simplifying assumptions embedded in the duration calculation itself, but that value of $14,859 at year 20 is certain: no chance of being higher or lower regardless of whether bond yields rise, fall, or vacillate over the intervening period of time.

If you don't reinvest the coupon payments, then you'll have a steady stream of income that will not vacillate over that period of time AND also a known final value of the bond.
international001 wrote: Mon Sep 14, 2020 9:01 amUnderstand risk as variation of results after your investment horizon
short term rates may change, but so do long term rates, and they may make your investment swing wildly.
Looking at a LTT fund, you typically end up with more returns and more risk over the long term
Long-term bonds do have more short-term price volatility than short-term bonds, but short-term price volatility is NOT a financial risk for a long-term investor.

Imagine a solid cable that connects two trees, and pretend the investor is securely attached to the cable and uses it to slide down from the top of Tree A to the bottom of Tree B.

A long-term bond is like a cable that has some slack in it (meaning investor might oscillate or swing a little bit during the slide) but is solidly anchored to both trees: no matter how wild the ride, the investor is certain to arrive at the anchor point in Tree B at the end.

A short-term bond is more like a rigid cable (or rod) that is anchored only to Tree A and is not connected at all to Tree B. Now the ride is "smooth" (since the rigid cable can't oscillate) but the lack of an anchor to Tree B means the investor could end up anywhere in the forest when they get to the end of the cable.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
jocdoc
Posts: 91
Joined: Wed Oct 30, 2013 5:29 am

Re: First 20% of bonds in long-term Treasuries

Post by jocdoc »

vine viz:
I understand the reinvestment risk is better for LTT bonds. Doesn't a long term bond fund have a higher reinvestment risk than single bonds?
jc
User avatar
abuss368
Posts: 21079
Joined: Mon Aug 03, 2009 2:33 pm
Location: Where the water is warm, the drinks are cold, and I don't know the names of the players!
Contact:

Re: First 20% of bonds in long-term Treasuries

Post by abuss368 »

jocdoc wrote: Mon Sep 14, 2020 4:56 pm vine viz:
I understand the reinvestment risk is better for LTT bonds. Doesn't a long term bond fund have a higher reinvestment risk than single bonds?
jc
I think so as the duration risk is higher. A bonds duration risk shows how the bond will react to an increase or decrease in interest rates.
John C. Bogle: “Simplicity is the master key to financial success."
User avatar
Topic Author
vineviz
Posts: 7653
Joined: Tue May 15, 2018 1:55 pm

Re: First 20% of bonds in long-term Treasuries

Post by vineviz »

jocdoc wrote: Mon Sep 14, 2020 4:56 pm vine viz:
I understand the reinvestment risk is better for LTT bonds. Doesn't a long term bond fund have a higher reinvestment risk than single bonds?
jc
There’s not really any inherent difference between a bond and a bond fund in this regard: after all, a bond fund is made up entirely of individual bonds.

The practical difference, though, is that the bond fund managers are usually working to keep the average duration of the fund relatively constant over time.

Since your investment horizon naturally grows shorter over time, you want the average duration of your bonds to grow shorter over time as well. Individual bonds automatically do this (unless you’re subverting the process by building a rolling bond ladder), but if you’re bond fund isn’t doing that you’ll need to do it yourself. That means periodically exchanging a small amount of long term bonds for short term bonds/cash (Eg as part of your annual rebalancing or by withdrawing slightly more from long term bonds).
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
caklim00
Posts: 2259
Joined: Mon May 26, 2008 10:09 am

Re: First 20% of bonds in long-term Treasuries

Post by caklim00 »

My bond exposure now is entirely through ZB (US Treasury Bond) futures. Just hold one contract but it has a notional value of over 170K and it definitely operates similar to that much of TLT. Definitely nice not having to use that much cash on long term bonds though.
jocdoc
Posts: 91
Joined: Wed Oct 30, 2013 5:29 am

Re: First 20% of bonds in long-term Treasuries

Post by jocdoc »

Shouldn't one consider a pension, annuity or social security as a long term bond equivalent as part of the first 20% in long term bonds?
muffins14
Posts: 331
Joined: Wed Oct 26, 2016 4:14 am

Re: First 20% of bonds in long-term Treasuries

Post by muffins14 »

jocdoc wrote: Tue Sep 15, 2020 5:18 am Shouldn't one consider a pension, annuity or social security as a long term bond equivalent as part of the first 20% in long term bonds?
Unfortunately one can’t rebalance out of social security and into stocks when the market drops, nor can hope for a negative correlation between SS price and stocks like has recently existed with long-term treasuries
User avatar
Topic Author
vineviz
Posts: 7653
Joined: Tue May 15, 2018 1:55 pm

Re: First 20% of bonds in long-term Treasuries

Post by vineviz »

muffins14 wrote: Tue Sep 15, 2020 6:47 am
jocdoc wrote: Tue Sep 15, 2020 5:18 am Shouldn't one consider a pension, annuity or social security as a long term bond equivalent as part of the first 20% in long term bonds?
Unfortunately one can’t rebalance out of social security and into stocks when the market drops, nor can hope for a negative correlation between SS price and stocks like has recently existed with long-term treasuries
This.

Pensions, annuities, Social Security, etc. are income streams, not genuine capital assets: they have no price volatility, which is key attribute of marketable securities.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
international001
Posts: 1569
Joined: Thu Feb 15, 2018 7:31 pm

Re: First 20% of bonds in long-term Treasuries

Post by international001 »

vineviz wrote: Tue Sep 15, 2020 7:17 am
muffins14 wrote: Tue Sep 15, 2020 6:47 am
jocdoc wrote: Tue Sep 15, 2020 5:18 am Shouldn't one consider a pension, annuity or social security as a long term bond equivalent as part of the first 20% in long term bonds?
Unfortunately one can’t rebalance out of social security and into stocks when the market drops, nor can hope for a negative correlation between SS price and stocks like has recently existed with long-term treasuries
This.

Pensions, annuities, Social Security, etc. are income streams, not genuine capital assets: they have no price volatility, which is key attribute of marketable securities.
Well.. you can be creative. For instance:

40%: SS value (equivalent price of an annuity) + bonds
60%: stocks
muffins14
Posts: 331
Joined: Wed Oct 26, 2016 4:14 am

Re: First 20% of bonds in long-term Treasuries

Post by muffins14 »

I think most people consider SS to be separate from their portfolio, and the overall effect is to imply that you can have a smaller portfolio because your remaining expenses are reduced after accounting for your SS income.
User avatar
Topic Author
vineviz
Posts: 7653
Joined: Tue May 15, 2018 1:55 pm

Re: First 20% of bonds in long-term Treasuries

Post by vineviz »

muffins14 wrote: Wed Sep 16, 2020 7:28 am I think most people consider SS to be separate from their portfolio, and the overall effect is to imply that you can have a smaller portfolio because your remaining expenses are reduced after accounting for your SS income.
Yes. The amount of “guaranteed” income (e.g. Social Security, pensions, annuities) is an important factor in setting the portfolio allocation and, obviously, the withdrawal rate.

But best practice is to treat income streams as income streams, not to treat them as if they are an asset using a PV calculation or other technique.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
User avatar
Steve Reading
Posts: 2389
Joined: Fri Nov 16, 2018 10:20 pm

Re: First 20% of bonds in long-term Treasuries

Post by Steve Reading »

jocdoc wrote: Tue Sep 15, 2020 5:18 am Shouldn't one consider a pension, annuity or social security as a long term bond equivalent as part of the first 20% in long term bonds?
Yes, income streams (whether that's a pension, Social Security, your own wages, etc) can and probably should be discounted to their present value, and considered part of your safe, fixed-income allocation (provided it actually is safe). You'd then invest your financial capital accordingly, over-investing in stocks as necessary to maintain your desired Asset Allocation. The benefits theoretically and empirically of following this Lifecycle Approach have been excellent.
"... so high a present discounted value of wealth, it is only prudent for him to put more into common stocks compared to his present tangible wealth, borrowing if necessary" - Paul Samuelson
User avatar
jeffyscott
Posts: 9105
Joined: Tue Feb 27, 2007 9:12 am
Location: Wisconsin

Re: First 20% of bonds in long-term Treasuries

Post by jeffyscott »

vineviz wrote: Wed Sep 16, 2020 8:28 am
muffins14 wrote: Wed Sep 16, 2020 7:28 am I think most people consider SS to be separate from their portfolio, and the overall effect is to imply that you can have a smaller portfolio because your remaining expenses are reduced after accounting for your SS income.
Yes. The amount of “guaranteed” income (e.g. Social Security, pensions, annuities) is an important factor in setting the portfolio allocation and, obviously, the withdrawal rate.

But best practice is to treat income streams as income streams, not to treat them as if they are an asset using a PV calculation or other technique.
Yes, why go in this circle of converting an income stream to an asset and then deciding what income stream that virtual asset can provide? The purpose of assets saved for retirement is to provide a stream of income, the assets are the thing that needs to be converted to something else. The pre-existing stream of income means that less needs to be provided from the portfolio assets.
The two greatest enemies of the equity fund investor are expenses and emotions. ― John C. Bogle
User avatar
LTCM
Posts: 22
Joined: Wed Sep 09, 2020 3:58 am

Re: First 20% of bonds in long-term Treasuries

Post by LTCM »

What a great thread. I'm up to page 16 or so and something occurred to me (so I hope it hasn't been asked in 16-19 somewhere)...

Where does a mortgage fit into this? If you're a young investor considering a 30 year treasury bond to balance your 80% stock portfolio but are also considering taking out a 30 year mortgage at 3% where do you stand relatively?

If rates rise you win on the mortgage but lose on the bond (but are able to buy back in at higher rates) If rates fall you refinance the mortgage and "win" on the bond. What's the overall effect?

(Obviously it depends on the size of the bonds c.f. mortgage but how do you work it out?)

Thanks to all for a great read so far!
User avatar
Topic Author
vineviz
Posts: 7653
Joined: Tue May 15, 2018 1:55 pm

Re: First 20% of bonds in long-term Treasuries

Post by vineviz »

LTCM wrote: Thu Sep 17, 2020 6:01 am Where does a mortgage fit into this? If you're a young investor considering a 30 year treasury bond to balance your 80% stock portfolio but are also considering taking out a 30 year mortgage at 3% where do you stand relatively?
I think I'd come down on the side of saying that the mortgage doesn't necessarily have a direct impact on WHICH bonds you should allocate to.

From an overall financial planning perspective, an argument could be made that it is irrational (i.e. economically suboptimal) to own ANY bonds if the investor holds a conventional mortgage. I think most people would not feel comfortable taking the extreme version of that position, but in taxable accounts I certainly wouldn't want to be putting much into bonds (apart from an emergency/liquidity fund, of course) when you could earn a better return by paying down the mortgage loan than you could on risk-equivalent bonds.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
international001
Posts: 1569
Joined: Thu Feb 15, 2018 7:31 pm

Re: First 20% of bonds in long-term Treasuries

Post by international001 »

vineviz wrote: Mon Sep 14, 2020 5:43 pm Since your investment horizon naturally grows shorter over time, you want the average duration of your bonds to grow shorter over time as well. Individual bonds automatically do this (unless you’re subverting the process by building a rolling bond ladder), but if you’re bond fund isn’t doing that you’ll need to do it yourself. That means periodically exchanging a small amount of long term bonds for short term bonds/cash (Eg as part of your annual rebalancing or by withdrawing slightly more from long term bonds).
Or just the same type of bonds but having more of them (and less stocks)
I think what matters is the overall risk (~ volatility) of your portfolio
vineviz wrote: Mon Sep 14, 2020 5:43 pm From an overall financial planning perspective, an argument could be made that it is irrational (i.e. economically suboptimal) to own ANY bonds if the investor holds a conventional mortgage. I think most people would not feel comfortable taking the extreme version of that position, but in taxable accounts I certainly wouldn't want to be putting much into bonds (apart from an emergency/liquidity fund, of course) when you could earn a better return by paying down the mortgage loan than you could on risk-equivalent bonds.
Depends on your horizon and your needs
It's fine if you plan to stay in the home forever and you just want the money for retirement.
If you plan to move and get a more expensive house in 10 years, it may be good to have also some bonds in your AA.
Day9
Posts: 959
Joined: Mon Jun 11, 2012 6:22 pm

Re: First 20% of bonds in long-term Treasuries

Post by Day9 »

LTCM wrote: Thu Sep 17, 2020 6:01 am What a great thread. I'm up to page 16 or so and something occurred to me (so I hope it hasn't been asked in 16-19 somewhere)...

Where does a mortgage fit into this? If you're a young investor considering a 30 year treasury bond to balance your 80% stock portfolio but are also considering taking out a 30 year mortgage at 3% where do you stand relatively?

If rates rise you win on the mortgage but lose on the bond (but are able to buy back in at higher rates) If rates fall you refinance the mortgage and "win" on the bond. What's the overall effect?

(Obviously it depends on the size of the bonds c.f. mortgage but how do you work it out?)

Thanks to all for a great read so far!
Mortgages are callable and treasuries are not. You can pay off your mortgage early, the treasury cannot pay you back your long-term treasury early. If rates drop, you can refinance the mortgage to get the better rate, and your long term treasuries will increase in value. People often overlook this and I'm not arguing it dominates the decision, but it needs to be considered.
I'm just a fan of the person I got my user name from
User avatar
Topic Author
vineviz
Posts: 7653
Joined: Tue May 15, 2018 1:55 pm

Re: First 20% of bonds in long-term Treasuries

Post by vineviz »

international001 wrote: Thu Sep 17, 2020 10:35 am
vineviz wrote: Mon Sep 14, 2020 5:43 pm Since your investment horizon naturally grows shorter over time, you want the average duration of your bonds to grow shorter over time as well. Individual bonds automatically do this (unless you’re subverting the process by building a rolling bond ladder), but if you’re bond fund isn’t doing that you’ll need to do it yourself. That means periodically exchanging a small amount of long term bonds for short term bonds/cash (Eg as part of your annual rebalancing or by withdrawing slightly more from long term bonds).
Or just the same type of bonds but having more of them (and less stocks)
I think what matters is the overall risk (~ volatility) of your portfolio
Portfolio volatility alone is only a minor consideration, generally, and the stock/bond allocation decision can't control all the (more) important risks that an investor faces.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
international001
Posts: 1569
Joined: Thu Feb 15, 2018 7:31 pm

Re: First 20% of bonds in long-term Treasuries

Post by international001 »

vineviz wrote: Thu Sep 17, 2020 11:05 am
international001 wrote: Thu Sep 17, 2020 10:35 am
vineviz wrote: Mon Sep 14, 2020 5:43 pm Since your investment horizon naturally grows shorter over time, you want the average duration of your bonds to grow shorter over time as well. Individual bonds automatically do this (unless you’re subverting the process by building a rolling bond ladder), but if you’re bond fund isn’t doing that you’ll need to do it yourself. That means periodically exchanging a small amount of long term bonds for short term bonds/cash (Eg as part of your annual rebalancing or by withdrawing slightly more from long term bonds).
Or just the same type of bonds but having more of them (and less stocks)
I think what matters is the overall risk (~ volatility) of your portfolio
Portfolio volatility alone is only a minor consideration, generally, and the stock/bond allocation decision can't control all the (more) important risks that an investor faces.
Volatility is an approximation of risk or future variability.
IF you can enumerate those risk (for instance, max dropdown of a portfolio), and show us historic examples with portfolio visualizer it would be great
Or you are talking about future risky outcomes that have not occurred in the past?
User avatar
Topic Author
vineviz
Posts: 7653
Joined: Tue May 15, 2018 1:55 pm

Re: First 20% of bonds in long-term Treasuries

Post by vineviz »

international001 wrote: Sat Sep 19, 2020 5:36 pm Volatility is an approximation of risk or future variability.
IF you can enumerate those risk (for instance, max dropdown of a portfolio), and show us historic examples with portfolio visualizer it would be great.
The problem is that volatility is NOT an “approximation” of risk, at least not a very good one.

For example, take the extreme example of a newly retired investor who has put all of their portfolio into a TIPS ladder matched to their future consumption. Such a portfolio could be VERY volatile but is essentially risk-free.

On the other hand a similar retiree who puts their entire portfolio into 6-month CDs has a TON of risks but no volatility.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
guyinlaw
Posts: 693
Joined: Wed Jul 03, 2019 9:54 am

Re: First 20% of bonds in long-term Treasuries

Post by guyinlaw »

Came across this post from Oct 2008.
Robert T wrote: Wed Oct 15, 2008 3:40 am .
I would say that during a steep downturn diversification does not protect.
In 2005 Swensen wrote in his book Unconventional Success: A Fundamental Approach to Personal Investment: “No other asset type comes close to matching the diversifying power created by the long-term, noncallable, default-free, full-faith-and-credit obligations of the US government.” In 2000, he wrote a similar thing in Pioneering Portfolio Management: An Unconventional Approach to Institutional Investing. Certainly seems to be an ‘‘unconventional view” about fixed income.

Code: Select all

Over the last 12 months to October 10, 2008 (close to peak to trough: at least so far):

iShares  20+yr Treasuries          +13.84%
iShares  3-7yr Treasuries          +11.19%
iShares  1-3yr Treasuries           +7.36%

iShares 1-3yr Credit                +0.17%
iShares Intermediate Credit         -6.64%

iShares Dow Jones US Index         -40.29%
iShares EAFE                       -45.45%
iShares Emerging Mkt               -52.71%

Over this 12 month period, he has not been wrong about both treasuries (non-callable, default-free, full-faith-and-credit obligations of the US Government) and about longer-term treasuries.

Robert
.
Time is your friend; impulse is your enemy. - John C. Bogle
Day9
Posts: 959
Joined: Mon Jun 11, 2012 6:22 pm

Re: First 20% of bonds in long-term Treasuries

Post by Day9 »

Yes Swensen got unfairly criticized because all risk assets crashed in 2008, and he people accused him of advocating for only holding a diversified mix of risk assets. But as you can see from that quote in 2005, he was also an advocate for the diversification power of long term treasuries, and they were the only thing that shot up drastically when everything else was crashing together in 2008.

Today the 30 year treasury yield is 1.42%
When this thread started in Aug 2019 the 30 year treasury yield was 2.22%
In mid 2005 perhaps around when Swensen made that quote, the 20 year yield was about 4.4% (website isn't showing 30 year though I believe they were offered at the time)

People have been saying rates have nowhere to go but up for years. But clearly rates of other developed countries are even lower. So I stay the course with my ~10% allocation to long term treasuries (85/15 portfolio)
I'm just a fan of the person I got my user name from
atdharris
Posts: 592
Joined: Wed Jan 02, 2019 3:18 pm

Re: First 20% of bonds in long-term Treasuries

Post by atdharris »

It's a bit concerning to see LTT not act as a hedge during this most recent correction. You have to wonder if it no longer serves the purpose many of us own it for. I believe its either flat or down for the month.
User avatar
Topic Author
vineviz
Posts: 7653
Joined: Tue May 15, 2018 1:55 pm

Re: First 20% of bonds in long-term Treasuries

Post by vineviz »

atdharris wrote: Wed Sep 23, 2020 2:01 pm It's a bit concerning to see LTT not act as a hedge during this most recent correction. You have to wonder if it no longer serves the purpose many of us own it for. I believe its either flat or down for the month.
Long- term Treasury bonds have an average maturity of 20 years or so, so I encourage people not to obsess over day-to-day movements.

I’m not sure what definition are you using for “hedge” but there is surely no perfect hedge for every minor gyration in stock markets.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
muffins14
Posts: 331
Joined: Wed Oct 26, 2016 4:14 am

Re: First 20% of bonds in long-term Treasuries

Post by muffins14 »

atdharris wrote: Wed Sep 23, 2020 2:01 pm It's a bit concerning to see LTT not act as a hedge during this most recent correction. You have to wonder if it no longer serves the purpose many of us own it for. I believe its either flat or down for the month.
This is a bit myopic. Looking from Jan 2020 to today I think you'd think it was acting as desired
Tingting1013
Posts: 234
Joined: Mon Aug 24, 2020 5:44 pm

Re: First 20% of bonds in long-term Treasuries

Post by Tingting1013 »

atdharris wrote: Wed Sep 23, 2020 2:01 pm It's a bit concerning to see LTT not act as a hedge during this most recent correction. You have to wonder if it no longer serves the purpose many of us own it for. I believe its either flat or down for the month.
Not sure what you are talking about here.

January through March the stock market was down -21%.

EDV was up 29%.
Post Reply