Understanding Global Aggregate Bonds

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Pensionisten2024
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Understanding Global Aggregate Bonds

Post by Pensionisten2024 »

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-Agencies
  • Gov-Related-Local Authority
  • Securitized-Asset Backed Security
  • Gov-Related-Supranational
  • Corporate-Utilities
  • Securitized-Commercial Mortgage Backed Security
  • Gov-Related-Provincials/Municipals
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tre3sori
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Your question: "Can someone help me to understand these bonds?"
ChatGPT
Certainly, let's break down these types of bonds to help you understand each one:

1. **Securitized-Mortgage Backed Security (MBS) Pass-through**: These are securities backed by mortgage loans. Lenders pool together mortgages and sell them to a governmental agency or investment bank that turns them into MBS. Investors in these securities receive periodic payments similar to coupon payments, which are the pass-through of the principal and interest payments from the homeowners.

https://en.wikipedia.org/wiki/Mortgage-backed_security

2. **Corporate-Financial Institutions**: Bonds issued by financial institutions like banks, insurance companies, or other financial entities. These bonds are a way for financial institutions to raise capital. Investors are paid interest, and the issuing institution promises to return the principal on the maturity date.

https://en.wikipedia.org/wiki/Financial_institution

3. **Gov-Related-Agencies**: Bonds issued by government agencies or government-sponsored enterprises (GSEs). While not always directly backed by the full faith and credit of the government, they often have a specific government mandate and offer a level of safety and security in terms of repayment.

https://en.wikipedia.org/wiki/Government_agency

4. **Gov-Related-Local Authority**: These are bonds issued by local governmental entities or authorities, such as cities, counties, or special-purpose districts. The funds from these bonds are typically used for public projects like schools, highways, and infrastructure improvements.

https://en.wikipedia.org/wiki/Local_government

5. **Securitized-Asset Backed Security (ABS)**: Similar to MBS, but instead of being backed by mortgage loans, ABS are backed by other types of assets like auto loans, credit card receivables, or student loans. Investors receive payments generated from these underlying assets.

https://en.wikipedia.org/wiki/Asset-backed_security

6. **Gov-Related-Supranational**: Bonds issued by supranational organizations, which are international institutions formed by two or more central governments to promote economic development or other cooperative projects. Examples include the World Bank and the European Investment Bank. These bonds are backed by the member countries.

7. **Corporate-Utilities**: Bonds issued by utility companies, which may include providers of electricity, gas, water, and sewage services. These bonds are used to finance infrastructure projects, operations, and maintenance.

8. **Securitized-Commercial Mortgage Backed Security (CMBS)**: These are similar to MBS but are backed by loans on commercial properties rather than residential homes. Investors in CMBS gain exposure to the commercial real estate market and receive income from the underlying commercial mortgages.

https://en.wikipedia.org/wiki/Commercia ... d_security

9. **Gov-Related-Provincials/Municipals**: Bonds issued by provincial, state, or municipal governments. In the U.S., these are commonly referred to as municipal bonds or "munis." They finance local government projects and operations. Interest income from these bonds is often exempt from federal income taxes and, in some cases, state and local taxes for residents of the issuing state.

https://en.wikipedia.org/wiki/Municipal_bond

Each of these bond types has its own set of characteristics, risks, and rewards. They can serve different roles in an investment portfolio, ranging from relatively safe, income-generating investments to higher-risk, higher-reward opportunities.
I looked up the articles from the english wikipedia where applicable. Hope that gives you a start.
Last edited by tre3sori on Sat Feb 03, 2024 4:15 am, edited 1 time in total.
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tre3sori
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

This may also be interesting:
I once made a script that calculates the percentage of each bond issuer from the listing of the 10.000 or more securities hold by Vanguard Global Aggregate Bond UCITS ETF EUR Hedged by summing over bonds from the same issuer. Here is the list of the twenty largest issuers with their percentage as of 2023/11/30:

Bond Issuer............................................................% in the ETF

United States Treasury Note/Bond..........................22.04
Japan Government Bond.........................................05.92
Fannie Mae Pool......................................................04.40
French Republic Government Bond OAT.................03.69
Italy Buoni Poliennali Del Tesoro..............................03.28
Freddie Mac Pool.....................................................02.63
Ginnie Mae II Pool....................................................02.08
Bundesrepublik Deutschland Bundesanleihe...........02.05
United Kingdom Gilt.................................................02.05
Spain Government Bond..........................................01.82
Korea Treasury Bond...............................................01.48
Canadian Government Bond..................................00.79
Australia Government Bond....................................00.79
European Union......................................................00.76
Kingdom of Belgium Government Bond..................00.73
Kreditanstalt fuer Wiederaufbau..............................00.73
European Investment Bank.....................................00.65
Republic of Austria Government Bond....................00.55
Indonesia Treasury Bond........................................00.50
Bundesobligation....................................................00.48
Last edited by tre3sori on Fri Feb 09, 2024 2:58 am, edited 1 time in total.
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Pensionisten2024
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Re: Understanding Global Aggregate Bonds

Post by Pensionisten2024 »

Thank you very much :)

Is Vanguard Global Aggregate Bond UCITS - EUR Hedged Accumulating (VAGF) buying all bonds in the world there has a rating at BBB and above?
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tre3sori
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

From the KID: "The fund invests in a representative selection of bonds included in the index in order to replicate as closely as possible the return of capital and income of the index." The index is the Bloomberg Global Aggregate Float Adjusted and Scaled Index. No, the index does not include inflation-linked bonds. Not all bonds are publicly traded. So the fund does not buy all bonds in the world with a rating of BBB and above. But because of the huge number of bonds in the index (more than 20.000) and in the fund (more than 10.000) from all kinds of issuers, regions, terms, IG ratings etc I would say the index (and the ETF) represents the global nominal investment-grade bond market as close as is technically feasible and economically rational. Maybe not as close as, but close enough.

A different question is, if this index/ETF aligns well with your personal investment goals. The properties of the global bond market with respect to term, rating, lack of inflation-protection, income etc may not be ideal for your personal situation. Why should it be? If you know little or nothing about when you need the invested money, if Italy is too risky or not, what the right amount of corporate bonds is ... or all the other questions, in short: if you are agnostic to many aspects of bond investing and the only thing you know is, that a 100% stock quote is not sustainable for you, than this ETF could be the right choice.
There is this never ending debate if market cap weighted index trackers make sense for bonds (the counterargument being, that the largest debitors have the highest weight in the index => BAD!). I console myself with the fact that in a float adjusted index the bonds of the largest debitors have a huge number of buyers. Do I know more than them? No! => So I stay with the market cap weighted index bond fund.
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Valuethinker
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Re: Understanding Global Aggregate Bonds

Post by Valuethinker »

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-Agencies
  • Gov-Related-Local Authority
  • Securitized-Asset Backed Security
  • Gov-Related-Supranational
  • Corporate-Utilities
  • Securitized-Commercial Mortgage Backed Security
  • Gov-Related-Provincials/Municipals
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.
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Valuethinker wrote: Sun Feb 04, 2024 10:43 am 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).
Thank you very much for the detailed answer! Would you view such an aggregate bond fund with all its different kind of issuers as a lucky bag of different risks? Do you have an opinion about the "risk of strong coupling" that such a fund poses for the investor? What I mean: if I were to split my bond holdings into different positions like US treasuries (EUR heged), Euro government bonds, Euro corporate bonds..., would this "lose coupling" reduce the risk compared to hodling a single aggregate bond ETF? Does the simplicity come at too high a cost?
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Re: Understanding Global Aggregate Bonds

Post by Stork »

Valuethinker wrote: Sun Feb 04, 2024 10:43 am
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.
As things are at present DKK is linked to EUR, it trades with a 2% band, so EUR hedged is a good substitute. If the Euro fall apart the situation is - different.

Danish Mortgage Bonds (Realkreditobligationer) do in principle have the same issues as the US Mortgage Backed Securities you describe - they are callable, and it start as far as I have figured out happening when the rate for the same term gets about 1.5-2% lower than the coupon. They are also available up to 30 years.

As for credit risk, I regard them as some of the safest available. They are AAA rated, by law they can only cover the first 80% of the house price and unlike the US the borrower is still on the hook if the house is repossessed. They have been around in some form since the late 18th century and not defaulted (yet).

We have some as we could get them with a 5.25% yield and we see a slight upside in case of Euro breakup, as in less bad than most things €-denominated. Also, they are liquid and relatively cheap to trade if you have a Danish bank.
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Re: Understanding Global Aggregate Bonds

Post by Valuethinker »

tre3sori wrote: Sun Feb 04, 2024 11:58 am
Valuethinker wrote: Sun Feb 04, 2024 10:43 am 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).
Thank you very much for the detailed answer! Would you view such an aggregate bond fund with all its different kind of issuers as a lucky bag of different risks? Do you have an opinion about the "risk of strong coupling" that such a fund poses for the investor? What I mean: if I were to split my bond holdings into different positions like US treasuries (EUR heged), Euro government bonds, Euro corporate bonds..., would this "lose coupling" reduce the risk compared to hodling a single aggregate bond ETF? Does the simplicity come at too high a cost?
Not really. For the reasons Larry Swedroe says.

i.e. these are complex things to figure out (repayment risk, call risk etc) and they vary over time.

Your real diversification (that matters) is across credit risk - that's what all bonds have. So not being too reliant on any one government to repay. It is a market assumption that the US Treasury bond is risk free, but that sovereign developed countries always repay their debts. I.e. that they are Ireland not Greece. I am mostly sure of this but to quote St Augustine "Lord make me chaste. But not yet" ie I am not 100% sure of that.

Your other risk is interest rate risk and that's inherent in owning bonds. (I am assuming the fund is hedged so no real foreign exchange risk). Call and early repayment features increase that risk for the bond holder.

Any other kind of risk you might get paid for by the market, but a higher yield now, but a greater call risk at a later moment? Is that worth having?

Similarly private credit risk is correlated with the stock market - ie the rest of your portfolio.

You can split your bond holdings as you describe, but you risk just making your life complicated for yourself without gaining much (if anything). I mean if there was not a Global Government Bond fund, would I accept a Global Investment Grade bond fund (that was heavily weighted towards government bonds)? Yes. For the convenience of having only one fund.
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Re: Understanding Global Aggregate Bonds

Post by Bernmaster »

I found it highly informative to read the above discussion. Many thanks to @Tr3sori and @Valuethinker for your great posts.

Global Aggregate Bonds appear opaque to me, to say the least. I am still unsure if the index aligns with my own investing goals. My struggle with bonds is that I am supposed to take credit, call, and especially duration risk but compensation for those risks appears scarce.

Two concepts appeal to me about fixed-income investments:
1. Take your risk on the equity side and use the risk-free asset for your fixed-income exposure (Treasury Bills)
2. Just as you can't pick stocks, you can't pick bonds. Be satisfied with the average (Aggregate Bonds)

Most of the time I feel I might need the money before the roughly 6.8 years of the fund's duration (which has never been the case). So far I have therefore stuck with money market instruments for my limited fixed-income exposure (German Treasury Bills). However, I realize that this allocation will underperform Aggregate Bonds over the long term.
"The unsophisticated investor who is realistic about his shortcomings is likely to obtain better results than the knowledgeable professional who is blind to even a single weakness” ― Warren Buffett
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Re: Understanding Global Aggregate Bonds

Post by Valuethinker »

Bernmaster wrote: Tue Feb 06, 2024 11:39 am I found it highly informative to read the above discussion. Many thanks to @Tr3sori and @Valuethinker for your great posts.

Global Aggregate Bonds appear opaque to me, to say the least. I am still unsure if the index aligns with my own investing goals. My struggle with bonds is that I am supposed to take credit, call, and especially duration risk but compensation for those risks appears scarce.

Two concepts appeal to me about fixed-income investments:
1. Take your risk on the equity side and use the risk-free asset for your fixed-income exposure (Treasury Bills)
2. Just as you can't pick stocks, you can't pick bonds. Be satisfied with the average (Aggregate Bonds)

Most of the time I feel I might need the money before the roughly 6.8 years of the fund's duration (which has never been the case). So far I have therefore stuck with money market instruments for my limited fixed-income exposure (German Treasury Bills). However, I realize that this allocation will underperform Aggregate Bonds over the long term.
These are good heuristics (rules of thumb).

My view is that the Eurozone will probably have lower interest rates. The economy is not strong and it may get worse. Germany is nearly in a recession.

You can synthesise the desired duration. For example 50% in T Bills and 50% in the bond fund will have an average duration of 3.4 years.
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Bernmaster wrote: Tue Feb 06, 2024 11:39 am Global Aggregate Bonds appear opaque to me, to say the least. I am still unsure if the index aligns with my own investing goals. My struggle with bonds is that I am supposed to take credit, call, and especially duration risk but compensation for those risks appears scarce.

Two concepts appeal to me about fixed-income investments:
1. Take your risk on the equity side and use the risk-free asset for your fixed-income exposure (Treasury Bills)
2. Just as you can't pick stocks, you can't pick bonds. Be satisfied with the average (Aggregate Bonds)
Idiosyncratic risk (the risk of a single issuer) decreases significantly, market risk persists in an ETF with bonds from dozens of governments and thousands of corporate bonds. From a correlation perspective in a crisis you probably would do better with a government bond fund. But then I envision Jack Bogle, who didn't like (US) aggregate bond funds because of their low percentage in corporate bonds. His recommendation was 50% of fixed income in corporate bonds. Over longer time periods the performance drag of government bonds compared to corporate bonds seemed to bother Jack. So here I am, between valuethinker (100% govies) and Jack Bogle (at least 50% corps), knowing close to nothing and having to decide. I go with your number 2. and do nothing: I stay with (the simplicity of) my global aggregate bond ETF, which is about 25% in corporate bonds.
Bernmaster wrote: Tue Feb 06, 2024 11:39 am Most of the time I feel I might need the money before the roughly 6.8 years of the fund's duration (which has never been the case). So far I have therefore stuck with money market instruments for my limited fixed-income exposure (German Treasury Bills). However, I realize that this allocation will underperform Aggregate Bonds over the long term.
...and this brings me back to these "bucket" rules of thumb for building a portfolio (withdrawal phase):
Cash: 6 months to 2 or 3 years of your portfolio-funded spending needs
Bonds: 10 years - (6 months to 2 or 3 years). The duration of the aggregate bond fund fits well into this scheme and with Vanguards recommendation to hold these intermediate duration bond funds for at least 4 to 10 years.
Stocks: the rest.
Fill up the cash bucket with distributions or, if necessary, with selling shares
from the asset class that is highest above the target allocation.

Investor psychology in progress: a more or less unexpected large drop in an asset class and everybody starts (many start) to struggle with that asset class
at a time when expected return is larger than ever. And another cheap trick for the psyche of the investor: The distributions of my ETF have more than doubled in 2 years providing for a third of my spending needs now and making it easier for me to stay the course.
Last edited by tre3sori on Wed Feb 14, 2024 3:01 am, edited 1 time in total.
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Re: Understanding Global Aggregate Bonds

Post by Bernmaster »

Valuethinker wrote: Tue Feb 06, 2024 4:51 pm These are good heuristics (rules of thumb).

My view is that the Eurozone will probably have lower interest rates. The economy is not strong and it may get worse. Germany is nearly in a recession.

You can synthesise the desired duration. For example 50% in T Bills and 50% in the bond fund will have an average duration of 3.4 years.
This makes perfect sense, but might already be priced in. Reducing duration by holding T Bills is a useful concept. My problem seems to be that I can only make a very rough estimate of the investment horizon for my fixed-income investments because it depends on several factors beyond my control.
tre3sori wrote: Tue Feb 06, 2024 11:54 pm Idiosyncratic risk (the risk of a single issuer) decreases significantly, market risk persists in an ETF with bonds from dozens of governments and thousands of corporate bonds. From a correlation perspective in a crisis you probably would do better with a government bond fund. But then I envision Jack Bogle, who didn't like (US) aggregate bond funds because of their low percentage in corporate bonds. His recommendation was 50% of fixed income in corporate bonds. Over longer time periods the performance drag of government bonds compared to corporate bonds seemed to bother Jack. So here I am, between valuethinker (100% govies) and Jack Bogle (at least 50% corps), knowing close to nothing and having to decide. I go with your number 2. and do nothing: I stay with (the simplicity of) my global aggregate bond ETF, which is about 25% in corporate bonds.

...and this brings me back to these "bucket" rules of thumb for building a portfolio (withdrawal phase):
Cash: 6 months to 2 or 3 years of your portfolio-funded spending needs
Bonds: 10 years - (6 months to 2 or 3 years). The duration of the aggregate bond fund fits well into this schema and with Vanguards recommendation to hold these intermediate duration bond funds for at least 4 to 10 years.
Stocks: the rest.
Fill up the cash bucket with distributions or, if necessary, with selling shares
from the asset class that is highest above the target allocation.

Investor psychology in progress: a more or less unexpected large drop in an asset class and everybody starts (many start) to struggle with that asset class
at a time when expected return is larger than ever. And another cheap trick for the psyche of the investor: The distributions of my ETF have more than doubled in 2 years providing for a third of my spending needs now and making it easier for me to stay the course.
I really appreciate the simplicity of the Global Aggregate Bond fund and the bucket approach you describe makes sense for the withdrawal phase. In terms of investor psychology, I was surprised by the sharp fall in bond prices (and I don't even own any :wink: ). It clearly shows that duration risk is real, even if it hasn't materialised for a long time. Especially with an inverted yield curve, it is psychologically not easy to invest in longer-dated (riskier) bonds with lower yields. Of course, I realise that the current yields may not be available in the future. I don't think I can predict interest rates but I'm actually not so sure the bond market can either (see picture below).

Image

Thank you both for your valuable feedback!
"The unsophisticated investor who is realistic about his shortcomings is likely to obtain better results than the knowledgeable professional who is blind to even a single weakness” ― Warren Buffett
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Also take a look at the ongoing discussion about BND, the US aggregate bond index tracker.
About 40-50% of a global aggregate bond ETF consists of US aggregate bonds. So pretty
much the same discussion about the same questions and problems.
viewtopic.php?t=423468&start=50
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Re: Understanding Global Aggregate Bonds

Post by Bernmaster »

tre3sori wrote: Wed Feb 07, 2024 7:39 am Also take a look at the ongoing discussion about BND, the US aggregate bond index tracker.
About 40-50% of a global aggregate bond ETF consists of US aggregate bonds. So pretty
much the same discussion about the same questions and problems.
viewtopic.php?t=423468&start=50
Thank you for your suggestion, the thread above was quite interesting. After intensive contemplation and discussion with my wife, we came to the following conclusion:

- Since 1901 European Bonds had an excess return over Treasury Bills of about 0.6%. (Source: Vanguard [p.26])
- The Tracking Difference for our favored Global Aggregate Bond ETF (VAGE) has been 14-15 bpts (10 basis points TER, 3-4 basis points currency hedging plus internal fund trading costs according to the prospectus)
- Because we prefer the Vanguard product and especially the distributing version of the Global Aggregate Bond ETF (VAGE) we have to factor in the spread. We trade on XETRA and the average XLM for this specific fund is 25 bpts (roundtrip).
- We have to pay capital income tax on the additional return (26.375%) which further reduces the risk premium.

Calculation: (0.6% - 0.15%)*76.375%= 0.33% risk premium after costs and tax over Treasury Bills. Then there is still the spread. If held for let's say 7 years (approximate fund duration) that removes another 0.03-0.04%. If we need the money earlier trading costs nullify the additional returns.

According to our calculation, we expect a roughly 0.3% risk premium after holding costs, trading costs, and taxes compared to basically risk-free German Treasury bills (0 expense ratio, spread < 1 bp). This is very scarce compensation for the higher risk.

Pretty sure there are certain weaknesses in the analysis above.
"The unsophisticated investor who is realistic about his shortcomings is likely to obtain better results than the knowledgeable professional who is blind to even a single weakness” ― Warren Buffett
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Bernmaster wrote: Thu Feb 08, 2024 2:27 am This is very scarce compensation for the higher risk.
VAGE = Vanguard Global Aggregate Bond UCITS ETF EUR Hedged Dist

My (rough and unsophisticated) calculation would go like this:
I look for a "risk-free" German Bund with a duration comparable to VAGE (6.8 yrs).
Using this tool https://www.boerse-frankfurt.de/anleihen/suche
I find for example this zero coupon bond: ISIN DE0001102531.
With a zero coupon bond yield = yield to maturity.
It gives me a yield (to maturity) of about 2.2%.
(I assume the market for German Bunds to be pretty efficient. So no
need to worry much about which Bund I chose.)
I compare this to the yield to maturity of VAGE (3.8%) minus TER and other costs (0.2%):
(3.8% - 0.2%) - 2.2% = 1.4%
I expect VAGE to roughly give me about 1.4% more return than a "risk-free" German Bund
before tax.

Pretty sure there are certain weaknesses in this analysis as well.
Hopefully people more knowledgeable than me chime in to give their perspective.
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Re: Understanding Global Aggregate Bonds

Post by Bernmaster »

tre3sori wrote: Thu Feb 08, 2024 5:49 am
VAGE = Vanguard Global Aggregate Bond UCITS ETF EUR Hedged Dist

My (rough and unsophisticated) calculation would go like this:
I look for a "risk-free" German Bund with a duration comparable to VAGE (6.8 yrs).
Using this tool https://www.boerse-frankfurt.de/anleihen/suche
I find for example this zero coupon bond: ISIN DE0001102531.
With a zero coupon bond yield = yield to maturity.
It gives me a yield (to maturity) of about 2.2%.
(I assume the market for German Bunds to be pretty efficient. So no
need to worry much about which Bund I chose.)
I compare this to the yield to maturity of VAGE (3.8%) minus TER and other costs (0.2%):
(3.8% - 0.2%) - 2.2% = 1.4%
I expect VAGE to roughly give me about 1.4% more return than a "risk-free" German Bund
before tax.

Pretty sure there are certain weaknesses in this analysis as well.
Hopefully people more knowledgeable than me chime in to give their perspective.
Thank you very much for your feedback. Your approach is probably closer to reality than mine. The only real weakness I can find is that I believe the quoted yield to maturity is not indicative of future returns due to currency hedging.

Vanguard states: "Investors should be aware that, globally, use of the yield to maturity as a predictor of medium- to long-term returns for a hedged international bond investment could lead to inappropriate return expectations, unlike the experience in a domestic bond investment" Source: Vanguard p. 9

To me that means that the real return after currency hedging must be somewhat similar to the € Aggregate Bond ETF which is currently 3.13%.

This intuitively makes sense because both funds had very similar duration, credit quality and returns:
Image

This is 0.93% above the return of a similar duration BUND (which has a certain duration premium as well).

(0.93-0.15)*76.375%= 0.6% return premium. Due to credit downgrades and callability not all of that return premium can be realized. Vanguard states that the expected return premium on "intermediate term credit bonds" can be realized by roughly 57% (Source: Vanguard, p4, figure 2)

So we expect a roughly 0.5% risk premium after holding costs, trading costs, and taxes compared to basically risk-free German Bonds of similar maturity. This comparison is unfair because the BUND also has duration risk. We might be inching closer to 1% over treasury bills which is much better than what I previously anticipated and makes much more sense.

To be honest I like the simplicity of just holding VAGE. As Valuethinker said yields are much better and the economy is down so the risk of further rate increases appears manageable. It is difficult to quantify the expected risk premium of global aggregate bonds over treasury bills but it certainly exists.
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Bernmaster wrote: Thu Feb 08, 2024 7:07 am The only real weakness I can find is that I believe the quoted yield to maturity is not indicative of future returns due to currency hedging.

Vanguard states: "Investors should be aware that, globally, use of the yield to maturity as a predictor of medium- to long-term returns for a hedged international bond investment could lead to inappropriate return expectations, unlike the experience in a domestic bond investment" Source: Vanguard p. 9
Thanks to remind me. I read the paper several times before, but apparently forgot about the fact that yields are not comparable in the long run. Maybe short term (up until duration) yields are comparable enough to use my simplistic approach. Don't know. Its just a guess.
Bernmaster wrote: Thu Feb 08, 2024 7:07 am (0.93-0.15)*76.375%= 0.6%
I struggle with the 76.375% because 100 - 26.375 (tax rate) = 73.625. Doesn't make a big difference though.
Bernmaster wrote: Thu Feb 08, 2024 7:07 am Due to credit downgrades and callability not all of that return premium can be realized. Vanguard states that the expected return premium on "intermediate term credit bonds" can be realized by roughly 57% (Source: Vanguard, p4, figure 2)
"intermediate term credit bonds" make up about a quarter of VAGE. But I think you took that into account by coming up with a premium of about 0.5%.
Bernmaster wrote: Thu Feb 08, 2024 7:07 am It is difficult to quantify the expected risk premium of global aggregate bonds over treasury bills but it certainly exists.
Yes difficult. Especially with hedging involved.
Bernmaster wrote: Tue Feb 06, 2024 11:39 am So far I have therefore stuck with money market instruments for my limited fixed-income exposure (German Treasury Bills).
I think the answer lies in "limited fixed-income exposure". I have only 15% of my total assets/25% of my financial assets in nominal assets like cash and bonds. So it does not really matter that much, if these assets are invested in German Treasury Bills, a global aggregate bond ETF or any other asset that protects me from the volatility of the stock market a bit. This probably holds for others in withdrawal phase as well.
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Re: Understanding Global Aggregate Bonds

Post by Bernmaster »

tre3sori wrote: Thu Feb 08, 2024 8:02 am
Bernmaster wrote: Thu Feb 08, 2024 7:07 am The only real weakness I can find is that I believe the quoted yield to maturity is not indicative of future returns due to currency hedging.

Vanguard states: "Investors should be aware that, globally, use of the yield to maturity as a predictor of medium- to long-term returns for a hedged international bond investment could lead to inappropriate return expectations, unlike the experience in a domestic bond investment" Source: Vanguard p. 9
Thanks to remind me. I read the paper several times before, but apparently forgot about the fact that yields are not comparable in the long run. Maybe short term (up until duration) yields are comparable enough to use my simplistic approach. Don't know. Its just a guess.
Bernmaster wrote: Thu Feb 08, 2024 7:07 am (0.93-0.15)*76.375%= 0.6%
I struggle with the 76.375% because 100 - 26.375 (tax rate) = 73.625. Doesn't make a big difference though.
Bernmaster wrote: Thu Feb 08, 2024 7:07 am Due to credit downgrades and callability not all of that return premium can be realized. Vanguard states that the expected return premium on "intermediate term credit bonds" can be realized by roughly 57% (Source: Vanguard, p4, figure 2)
"intermediate term credit bonds" make up about a quarter of VAGE. But I think you took that into account by coming up with a premium of about 0.5%.
Bernmaster wrote: Thu Feb 08, 2024 7:07 am It is difficult to quantify the expected risk premium of global aggregate bonds over treasury bills but it certainly exists.
Yes difficult. Especially with hedging involved.
Bernmaster wrote: Tue Feb 06, 2024 11:39 am So far I have therefore stuck with money market instruments for my limited fixed-income exposure (German Treasury Bills).
I think the answer lies in "limited fixed-income exposure". I have only 15% of my total assets/25% of my financial assets in nominal assets like cash and bonds. So it does not really matter that much, if these assets are invested in German Treasury Bills, a global aggregate bond ETF or any other asset that protects me from the volatility of the stock market a bit. This probably holds for others in withdrawal phase as well.
Thank you for the great discussion and for correcting my mistake regarding the German capital gains tax rate. I really like the idea of holding global aggregate bonds (because it is the obvious companion for my FTSE All-World ETF :happy ), but I always had doubts about the additional returns after costs and taxes per unit of risk taken, which we have jointly refuted.

In the end charts like this demonstrate the given risk premium even though it is for the US market and during a period of (mostly) falling interest rates:

Image
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Bernmaster wrote: Thu Feb 08, 2024 8:44 am In the end charts like this demonstrate the given risk premium even though it is for the US market and during a period of (mostly) falling interest rates:
The results from portfoliovisualizer confirm your diagram (probably also taken from portfoliovisualizer):
https://www.portfoliovisualizer.com/bac ... 8iFIT8jMJm
This gives a 1.05% risk premium of total US bond market over US short term treasuries for the time period 1987 - 2024.
Bernmaster wrote: Thu Feb 08, 2024 7:07 am So we expect a roughly 0.5% risk premium after holding costs, trading costs, and taxes compared to basically risk-free German Bonds of similar maturity. This comparison is unfair because the BUND also has duration risk. We might be inching closer to 1% over treasury bills which is much better than what I previously anticipated and makes much more sense.
So a 1.4% risk premium of the global aggregate bond fund over German short term treasury bills may not be such a bad guess given the fact that
German yields are even lower and the global aggregate bond fund contains a small dose of higher yielding government and corporate bonds from emerging markets. Only in hindsight we will know what the actual risk premium will have been and if the risk was worth taking or if it materializes and we pay with loss of assets.
What the diagram shows: in the long run a small difference in yields accumulate to a big difference in wealth. We knew that already but it is always stunning to actually see it.
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Re: Understanding Global Aggregate Bonds

Post by Bernmaster »

tre3sori wrote: Thu Feb 08, 2024 10:38 am So a 1.4% risk premium of the global aggregate bond fund over German short term treasury bills may not be such a bad guess given the fact that
German yields are even lower and the global aggregate bond fund contains a small dose of higher yielding government and corporate bonds from emerging markets. Only in hindsight we will know what the actual risk premium will have been and if the risk was worth taking or if it materializes and we pay with loss of assets.
What the diagram shows: in the long run a small difference in yields accumulate to a big difference in wealth. We knew that already but it is always stunning to actually see it.
Both investments also had identical Sharpe Ratios over this timeframe. That bond market seems to be pretty efficient after all :sharebeer
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Bernmaster wrote: Thu Feb 08, 2024 11:19 am Both investments also had identical Sharpe Ratios over this timeframe. That bond market seems to be pretty efficient after all :sharebeer
I probably will reread this thread now: "You can't eat Sharpe ratio (or can you)?":
viewtopic.php?t=415896
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Re: Understanding Global Aggregate Bonds

Post by Bernmaster »

The Global Aggregate Bond funds are a great product for many investors. However, after intensive contemplation I have come to the following conclusion:

The overall bond market contains corporate and agency bonds that have credit risk, and are callable and illiquid which is compensated for by increased return but not characteristics I want in my fixed-income exposure. These bonds make diversification indispensable, which makes the use of an investment fund necessary in the first place. Fund expenses and trading costs decrease the excess return generated by the inclusion of these securities.

Noncallable, default-free, full-faith-and-credit government obligations are therefore my preferred type of fixed-income. I hold as much as necessary and as little as possible of them directly thereby eliminating fund expenses and trading costs and take my risk on the equity side.
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Bernmaster wrote: Fri Feb 09, 2024 1:43 pm I hold as much as necessary and as little as possible of them directly thereby eliminating fund expenses and trading costs and take my risk on the equity side.
A link from Northern Flicker to portfoliovisualizer makes this choice even more transparent for the US market (with VTSAX Vanguard Total Stock Market Index Fund, BND, Vanguard Total Bond Market Index Fund and BIV Vanguard Intermediate-Term Bond Index Fund ETF, GOVT iShares US Treasury Bond ETF):
viewtopic.php?p=7702907#p7702907

I simplified it a bit in this backtest:
https://www.portfoliovisualizer.com/bac ... LGnQ0fWWRI
For the US a portfolio of 60/40 total stock market/total bond market has in the past been more or less equivalent to a portfolio
or 62/38 total stock market/US treasuries.
Would be interesting to know, what the percentages would be with respect to 60/40 Vanguard FTSE All-World UCITS ETF/Vanguard Global Aggregate Bond UCIT ETF EUR Hedged and ?/? Vanguard FTSE All-World UCITS ETF/German treasury bills.

Hopefully not 84/16 Vanguard FTSE All-World UCITS ETF/German treasury bills like with US treasury bills.
This would be a different beast with respect to risk to get the same return (in the past).
https://www.portfoliovisualizer.com/bac ... JvUHiiuzok
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Re: Understanding Global Aggregate Bonds

Post by Laurizas »

tre3sori wrote: Sat Feb 10, 2024 6:55 am Would be interesting to know, what the percentages would be with respect to 60/40 Vanguard FTSE All-World UCITS ETF/Vanguard Global Aggregate Bond UCIT ETF EUR Hedged and ?/? Vanguard FTSE All-World UCITS ETF/German treasury bills.
https://curvo.eu/backtest/en
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Laurizas wrote: Sat Feb 10, 2024 7:25 am https://curvo.eu/backtest/en
Yes, I backtested with curvo and it gave me about the same: 60/40 Vanguard FTSE All-World UCITS ETF/Vanguard Global Aggregate Bond UCIT ETF EUR Hedged and 62/38 Vanguard FTSE All-World UCITS ETF/German treasuries for the time since May 2019. Unfortunately no tracker for German treasury bills.

..............................................................Vanguard 2-fund..........................FTSE All-World with German Treasuries
Amount invested...................................€10,000........................................€10,000
Net asset value.....................................€12,404........................................€12,365
Compound annual growth rate..............5.53%...........................................5.45%
Standard deviation................................10.48%.........................................10.33%
Sharpe ratio...........................................0.54...............................................0.54

With curvo, time series are quite short for Vanguard FTSE All-World UCITS ETF/Vanguard Global Aggregate Bond UCIT ETF EUR Hedged starting in May 2019, the inception of the bond ETF. So not sure how this will play out over longer time periods.
At least curvo fixed data for Vanguard Global Aggregate Bond UCIT ETF EUR Hedged and the Bloomberg Barclays Global Aggregate Bond Index that had been wrong for a long time.
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Re: Understanding Global Aggregate Bonds

Post by Valuethinker »

I will make one comment about German Bund bonds.

The market assumes they have 0 credit risk. That's probably a good assumption. Even the extreme German political parties (in a coalition).

If the Eurozone ever broke up, the new DM or whatever would probably trade up against the other currencies (say the rump of the Euro).

However I believe German fiscal pacts artificially limit the supply of German govt bonds, relative to the requirements of, for example, Eurozone banks needing to hold the least risky assets as part of their Basel III (IV?) capital requirements. Similarly for Solvency II (European insurers regulation). I am NOT an expert on this.

Thus, I think it is at least possible that German Bunds yield too little due to inflated demand/ restricted supply. Relative to other bonds.

This is NOT an argument just to hold the Eurozone government bond fund. That has too many Italian bonds for my tastes - the market clearly does not think Italy has 0 default risk. France of course has the possibility of a major political disruption - MLP is not Meloni, and would feel much less constrained.

So I suggest a global govt bond fund, EUR hedged, is a better bet. Diversifies risk away from Eurozone issuers. Now that does mean one has the various risks of political ructions in the USA (although such a default would likely only be technical, not fundamental), Japan etc. So it's really a tradeoff of one risk against another. But it is more diversified as to credit risk.

The good news is it is not likely to make a huge difference to volatility or performance.

I would be the first to suggest that historic measures of return and volatility may be poor guides to the future. It's a reasonable bet that you will get returns around the yield (in nominal terms) of the average of the bonds in the portfolio. That seems clear - John Bogle himself recommended that metric. Assuming there are no prepayment or call provisions in the bonds, of course (ie no corporates or US mortgage backed securities).

And duration (and convexity) give you a sense of which bond is more or less exposed to interest rate moves - that's why the UK gilt market performed so badly in last couple of years (that plus Liz Truss' abortive 44 (42?) days in power - buried the Queen, buried the gilt market) relative to other bond markets. Even if you weren't aware of the Liability Driven Investing (LDI) fiasco.

Just be watchful. We had 41 years of fantastic bond returns, mostly, up until 2022. With only the occasional blip like 1994 (the worst year for bond markets between those 2 dates). You could have bought 30 year UK gilts on 13% or so yields in 1981 (when interest rates were 21% in the UK) and just held on until 2010 (when yields were sort of 3-4%) and then done the trick again. That's not the world we are in now.

"Past performance is no guide to future performance" as all UK financial investment products are required to put (in very small print) at the bottom of their ads.
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Re: Understanding Global Aggregate Bonds

Post by Laurizas »

tre3sori wrote: Sat Feb 10, 2024 9:43 am With curvo, time series are quite short for Vanguard FTSE All-World UCITS ETF/Vanguard Global Aggregate Bond UCIT ETF EUR Hedged starting in May 2019, the inception of the bond ETF.
Try Xtrackers II Global Government Bond UCITS ETF 1C EUR Hedged

https://www.justetf.com/en/etf-profile. ... 1#overview
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Valuethinker wrote: Sat Feb 10, 2024 10:31 am I will make one comment about German Bund bonds.

The market assumes they have 0 credit risk. That's probably a good assumption. Even the extreme German political parties (in a coalition).

If the Eurozone ever broke up, the new DM or whatever would probably trade up against the other currencies (say the rump of the Euro).

However I believe German fiscal pacts artificially limit the supply of German govt bonds, relative to the requirements of, for example, Eurozone banks needing to hold the least risky assets as part of their Basel III (IV?) capital requirements. Similarly for Solvency II (European insurers regulation). I am NOT an expert on this.

Thus, I think it is at least possible that German Bunds yield too little due to inflated demand/ restricted supply. Relative to other bonds.
German Bunds yield too little due to inflated demand/restricted supply...thats what I thought. Another aspect is the huge claims that the German Bundesbank has against other national banks, mainly Banca d'Italia and Banco d'Espana, due to the TARGET2 (im-)balances (1.1 trillion € as of 2023/12).
Who is going to pay that bill in case of a Eurozone brake up? How does it affect the credit worthiness of Germany in case nobody pays? If it comes to my mind, the market has it factored in already.
Valuethinker wrote: Sat Feb 10, 2024 10:31 am This is NOT an argument just to hold the Eurozone government bond fund. That has too many Italian bonds for my tastes - the market clearly does not think Italy has 0 default risk. France of course has the possibility of a major political disruption - MLP is not Meloni, and would feel much less constrained.

So I suggest a global govt bond fund, EUR hedged, is a better bet. Diversifies risk away from Eurozone issuers. Now that does mean one has the various risks of political ructions in the USA (although such a default would likely only be technical, not fundamental), Japan etc. So it's really a tradeoff of one risk against another. But it is more diversified as to credit risk.

The good news is it is not likely to make a huge difference to volatility or performance.
Yes. These are bonds in the end (a loan made by an investor to a borrower that pays periodic interest payments and returns the principal amount at maturity) and huge differences are not to be expected ... in the short run. In the long run small differences may add up to huge differences but defaults or persistent inflation may result in a substantial loss of assets and/or purchasing power. (The two deep risks of nominal bonds: inflation and default.)
Valuethinker wrote: Sat Feb 10, 2024 10:31 am I would be the first to suggest that historic measures of return and volatility may be poor guides to the future. It's a reasonable bet that you will get returns around the yield (in nominal terms) of the average of the bonds in the portfolio. That seems clear - John Bogle himself recommended that metric. Assuming there are no prepayment or call provisions in the bonds, of course (ie no corporates or US mortgage backed securities).
prepayment or call provisions...I wonder how big that risk is for global aggregate bond ETFs. bernmaster cited Vanguard that the expected return premium on "intermediate term credit bonds" can be realized by roughly 57%. So assuming an IG credit spread of about 1.4% of which 57% can be realized, a portfolio consisting of 75% intermediate treasuries and 25% intermediate corporate bonds can realize a return premium of about 20 basis points (0.2%) over 100% intermediate treasuries. Indeed a small premium. But also a small and compensated for additional risk, the Sharpe ratios of portfolios consisting of 75% intermediate treasuries and 25% intermediate corporate bonds or 100% intermediate treasuries being almost identical in the past.
Valuethinker wrote: Sat Feb 10, 2024 10:31 am And duration (and convexity) give you a sense of which bond is more or less exposed to interest rate moves - that's why the UK gilt market performed so badly in last couple of years (that plus Liz Truss' abortive 44 (42?) days in power - buried the Queen, buried the gilt market) relative to other bond markets. Even if you weren't aware of the Liability Driven Investing (LDI) fiasco.
Duration of a global aggregate bond ETF is about 6.8 years. In case of years of continuously rising rates you would have to wait (2 * duration + 1) years = 14.6 years to get to the break even point compared to money in a bank account. If you use a short term government bond with a duration of say 1.6 years (a bond that matures in 2 years) for comparison you would have to wait about 10 years longer (14.6 - (2*1.6 +1)) to get to the break even point in the worst case. So for people who don't know when they will need the money and if, then only in small amounts of their bond holding there could be an argument made for holding an intermediate bond fund. But there also could be an argument made for taking risk on the equity side, increase the equity percentage, increase the credit quality of your bond portfolio by just holding government bonds (Hedged to your currency). This portfolio probably would have a better inflation protection in the long run and a better behavior as buffer of equity risk. Often government bonds rise when stock crash. Often, not always, close to zero correlation, not negative correlation.
Valuethinker wrote: Sat Feb 10, 2024 10:31 am Just be watchful. We had 41 years of fantastic bond returns, mostly, up until 2022. With only the occasional blip like 1994 (the worst year for bond markets between those 2 dates). You could have bought 30 year UK gilts on 13% or so yields in 1981 (when interest rates were 21% in the UK) and just held on until 2010 (when yields were sort of 3-4%) and then done the trick again. That's not the world we are in now.

"Past performance is no guide to future performance" as all UK financial investment products are required to put (in very small print) at the bottom of their ads.
"That's not the world we are in now"...I guess the global bond market knows this and adjusts weights accordingly. And that is my critique of a very narrow bond exposure: it does not have the ability to adjust. Money in German government bonds is money in German government bonds. No way to escape but to make a decision and to sell. With an aggregate bond ETF the market decides what do to with the money. Where to put it. Not me. I can keep bathing in my bounded rationality and hope that the market gets it better than me anyway.

This is such a beautiful and simple portfolio:

Vanguard FTSE All-World UCITS ETF
Vanguard Global Aggregate Bond UCITS ETF EUR Hedged
cash
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Re: Understanding Global Aggregate Bonds

Post by Bernmaster »

tre3sori wrote: Sun Feb 11, 2024 4:28 am This is such a beautiful and simple portfolio:

Vanguard FTSE All-World UCITS ETF
Vanguard Global Aggregate Bond UCITS ETF EUR Hedged
cash
Thank you for the wonderful discussion. I agree wholeheartedly - it's a thing of beauty and simplicity. Treasury Bills belong in the cash/cash equivalents bucket. After all, they don't have any of the risk premia inherent in bonds.

In a recent "Bogleheads Live" podcast episode Charles Ellis replied about this subject:
Almost all of us should have as our principle focus when we're thinking about investment policy and portfolio structure, when is the money actually going to be spent? Where I would be in favor of bonds is if you had 3, 4, 5 years between today and when the money is going to be spent. If it's only going to be a year or less, my personal belief is bonds don't make sense. You should stick with treasury bills and recognize you're not going to get very much of a rate of return, but you're not going to have any risk. And that's really important for most of us when you're talking about your child's tuition or the money to buy a home or whatever. (Charles D. Ellis)
This sounds like the "bucket approach" described by Tr3sori above. My holdings of Treasury Bills belong in the latter category, the "cash" bucket. Treasury Bills are my preferred alternative to a savings account. The resulting portfolio is:

Vanguard FTSE All-World UCITS ETF
Cash/ T-Bills
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Re: Understanding Global Aggregate Bonds

Post by tre3sori »

Bernmaster wrote: Mon Feb 12, 2024 2:17 am Vanguard FTSE All-World UCITS ETF
Cash / T-Bills
Looks like a global version of the Buffett Portolio.

I enjoyed reading "Winning the Loser's Game" by Ellis. The tennis player parable at the beginning of the book stuck with me:

In professional tennis, the game is a "winner's game" where matches are won by the superior skills of the winning player. The outcomes are determined by the winners' ability to hit winning shots. In contrast, amateur tennis is described as a "loser's game," where the outcome is less often determined by these winning shots and more often by the players' mistakes. The winner is typically the one who makes the fewest errors.

Same for most amateur investors like me: investing success does not come from trying to hit the winning shots (trying to pick the multibaggers of the world), but from avoiding the worst investment mistakes.

If your cash / T-bill position, or my Vanguard Global Aggregate Bond UCITS ETF, help us to stay in the game and to make fewer mistakes, then the money is well invested even if these investments have lower returns than stocks."
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