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Life beyond bonds

Stocks and Shares ISA , Choosing funds for ISA's, risk factors for funds etc
Investment strategy discussions not dealt with elsewhere.
innocuous
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Life beyond bonds

#387485

Postby innocuous » February 17th, 2021, 3:25 pm

Hi All,

Last year I set-up my gone fishing portfolio based on some of the widely used approaches and like many I took a fairly standard formulaic approach with a global developed/developing small/large company and government bonds making up my portfolio. As I look at my portfolio performance Bonds seem to be a little disinteresting to me and it has me questioning why I want them in my portfolio at this point in my life.

My research shows that bonds usually form a portfolio because:
    - They are stable and fluctuate less in price
    - They have more stable income
    - They offer diversification vs stocks

Now, I am 25+ years from retirement - so stability is less important to me right now; and it seems like the huge influx of investors wanting the 'safety' of bonds has significantly reduced the ROI of owning bonds. So my query is, as someone looking to increase value and accumulate, rather than needing the safety of bond based income, should I really be concerned about having bonds in my portfolio?

The diversification point above is still valid for me; but I was thinking about diversifying in a different way.....lets say commodities. That could be sticking with the trusty Gold and Silver type ETC's or maybe livening things up a little by looking at some of the industrial commodities such as copper, nickel etc. What are you thoughts and ideas?

Thanks for your help.

Jon

dealtn
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Re: Life beyond bonds

#387491

Postby dealtn » February 17th, 2021, 3:47 pm

Bonds don't necessarily have the characteristics of stability and less fluctuation in price. It will depend what bonds you have, and what the price currently is. Just like with other assets the future won't necessarily reflect the past. Under a number of scenarios bonds might be negative return, and more volatile than other asset classes.

If safety, and stability are less important to you, as you say, and growth is (over a 25 year time frame) then there is no reason for you to have to include bonds in your portfolio (other than diversification which you acknowledge). As long as you understand the risks involved in both owning, and not owning (and the same applies to the other potential asset classes to include in your portfolio), then I don't see an issue in you deciding to be invested elsewhere.

1nvest
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Re: Life beyond bonds

#387545

Postby 1nvest » February 17th, 2021, 6:50 pm

fixedincomeinvestor is a good site for bonds. With longer dated Gilts (bonds) the price can be very volatile ...

https://www.fixedincomeinvestor.co.uk/x ... &groupid=3

as in effect a high number of fixed income payments are being priced according to current present day yield, such that if yields change even a little the collective sum of those results in a associated large adjustment move in the bonds price.

As bonds near maturity, when a fixed repayment amount will be paid, so the price tends to stabilise near that amount, so the bond has low price volatility.

With longer dated bonds as yields rise so prices decline; Or as yields decline so prices rise. Similar to stocks (as interest rates rise so stock prices tend to decline such that their dividend yield rises). Another factor however is that when fear of stocks rises and shares are sold to buy bonds so bond prices can spike in the opposite direction to stocks - exhibit a inverse correlation. When later greed is more prevalent and bonds are being sold to buy stocks again a inverse correlation can arise. Holding some of both stocks and bonds tends to smooth the overall portfolio volatility.

Some stocks are less volatile than some bonds, and sometimes less rewarding than bonds. A blend of both is generally seen as being a more appropriate asset allocation than either all stock or all bonds alone.

This is US data, but similar might be seen for UK data, where two thirds stock, one third bonds broadly compared in total return to 100% stock, but where holding some bonds helped reduce overall portfolio volatility along the way https://tinyurl.com/11xobbng The tendency is that all-stock often tends to have pulled-ahead, but periodically steps back down to compare or even lag a stock/bond blend. A significant risk element is start date, buy in at a relative high and that can severely impact overall investment reward outcome. When started with a stock/bond blend that early days risk factor is somewhat mitigated. That's more relevant however to a large lump sum being invested at a single timepoint. Being young however you are more inclined to drip feed into holdings over time (savings), such that start date valuations risk is equally diversified. However even still, if you can achieve similar rewards with less volatility (which is often perceived to be 'risk'), then the better risk adjusted reward is generally opined to be the better choice.

Given low yields/inflation/interest rates however, and the prospect for long dated bonds bought at such levels is far far lower than if bonds were being bought during a period of high interest rates/inflation. Personally at present interest inflation rates I favour a more equal three way split of FT250, US stock, gold (£, $, global currency .... small, large stock blend along with a commodity type asset allocation). For me, 50/50 stock/gold is comparable to a volatile global currency unhedged bond. Such a asset allocation IMO is appropriate across all age ranges and style (saving or in drawdown). If interest rates/inflation were north of 10% I'd be more inclined towards a stock/bond asset allocation.

tjh290633
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Re: Life beyond bonds

#387550

Postby tjh290633 » February 17th, 2021, 7:09 pm

Bonds have a place in many portfolios because of the rule that the percentage off bonds should equal your age in years (or something like that). Personally I have only held bonds for a short period, when I inherited them from my mother in 1970. I got rid of them fairly quickly, Australia 5.5% almost immediately, Salford 5.5% in 1972 and LCC 5.5% in 1974. The money realised went into Unit Trusts I was watching at that time. I have got to 87 without feeling the need to have any more.

There are better ways to invest, especially at a younger age. Knowing what I know now, I would have gone for Investment Trusts, but the outcome has suited me well. Her legacy also came with 3 shareholdings, ICI, Marks & Spencer and Brooke Bond Liebig (soon to be swallowed by Unilever). My wholesale move into equities came with the advent of PEPs in 1987.

The main thing is to keep saving regularly, into whatever medium you fancy.

TJH

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Re: Life beyond bonds

#387577

Postby Alaric » February 17th, 2021, 9:39 pm

tjh290633 wrote: Personally I have only held bonds for a short period, when I inherited them from my mother in 1970.


The 1970s was a strange time for bonds. I think there were some undated lower coupon issues where the yield could numerically exceed the price.

JohnW
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Re: Life beyond bonds

#387578

Postby JohnW » February 17th, 2021, 9:46 pm

You can be excused for changing your investments as you learn, but you can't excuse yourself for chopping and changing on the basis of short term returns. At some point you write down your investment policy statement and when the urge to scratch comes your IPS will guide you.
You'll easily find the research showing that individual investors who sit and do nothing with their investments can do better than those chopping and changing; not to say that changing is always wrong, but they're cautionary observations from brokerage data. The principles of investing haven't changed since last year, nor your risk appetite probably; what's changed is you've notice bond returns are low (and they probably were as low the day before you bought your bonds as well).
As to your specific query, we have no idea of your emotional response to risk, your % in bonds (actually, where did you say you own stocks?), or your overall financial position which might lead one to say: 'you've got £10M, you don't need government bonds', or 'you're facing redundancy, keep the bonds'. So, maybe just a bit more reading for your IPS.
You might address the urge to scratch by looking at a whole range of portfolios, their return and volatility history, usefulness during accumulation and retirement etc: https://portfoliocharts.com/portfolios/ It might tell you nobody knows what will do best in future.
I think the basis of a stocks bonds portfolio is that stocks give a desirable return, and (safe government) bonds ameliorate the risk of the stocks.Those risks don't end, and the loss potential gets bigger with time as the stocks' value gets bigger.
Some of those portfoliocharts' examples will show you can own nice portfolios by going beyond stocks and government bonds, but if stocks are for returns and government bonds are for risk reduction, do commodities have better returns than stocks? Commodities don't pay interest or coupons, or make profits by business activity - are they inherently better for you to get a share in the wealth from enterprise than stocks are?

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Re: Life beyond bonds

#387589

Postby tjh290633 » February 17th, 2021, 10:26 pm

Alaric wrote:
tjh290633 wrote: Personally I have only held bonds for a short period, when I inherited them from my mother in 1970.


The 1970s was a strange time for bonds. I think there were some undated lower coupon issues where the yield could numerically exceed the price.

It's a long time ago now, but in my records I have the LCC and Salford valued at par, and the Australian at about £70. The latter went for about £81 in late 1971, the Salford at about £77 in 1972 and the LCC for about £51 in 1974. I guess that interest rates were rising at the time. 1974 was a time when equities fell considerably, of course. I was investing in Jascot Compound Fund at the time, some of which I sold in 1977 for a slight profit. They got taken over twice, by Arbuthnot and then Royal Trust, and I eventually sold the accumulation units in 1989, for about 2.5 times what they had cost, having gathered a lot of dividend income on the way.

Pity I didn't keep better records back then.

TJH

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Re: Life beyond bonds

#387654

Postby everhopeful » February 18th, 2021, 10:03 am

I think the OP is talking only about government bonds but there is of course so much more to fixed interest investments as a diversifier in a portfolio. I did very well from holding UK government bonds in capital terms as interest rates fell over the last decade but have sold out now and would not repurchase at current prices. But there are also corporate bonds and Emerging Market bonds and preference shares and I continue to hold all of these in a diverse portfolio. When I was 25 years away from retirement ( a long time ago) I was entirely in equities and I only really discovered fixed interest when I had more time in retirement and that happened to be a good period to hold gilts. I don't agree with the idea of bond allocation according to some age based formula. This a lazy and takes no account of risk appetite and where we are in the interest rate cycle. In short I would not hold UK government debt in a portfolio if I was in your position.

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Re: Life beyond bonds

#387746

Postby Parky » February 18th, 2021, 3:02 pm

What about index-linked government bonds? With inflation likely to pick up over the next year or two they may provide useful protection.

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Re: Life beyond bonds

#387750

Postby dealtn » February 18th, 2021, 3:14 pm

Parky wrote:What about index-linked government bonds? With inflation likely to pick up over the next year or two they may provide useful protection.


Yes you can guarantee how much purchasing power you will lose. That might be preferable to some over an unknown loss of purchasing power.

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Re: Life beyond bonds

#388577

Postby innocuous » February 21st, 2021, 11:44 pm

Thanks everyone for your insight. I am aware of index linked and Corp bonds, in fact I had an EM bond ETF and US Tips bond in my portfolio. I dont think I really need the stability right now that they provide, and think I would rather diversify towards commodities in the short-medium term. When stability becomes more important, then I can start safe guarding my portfolio, but right now growth is king.

Thanks again for the reassurance.

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Re: Life beyond bonds

#388935

Postby hiriskpaul » February 22nd, 2021, 10:26 pm

innocuous wrote:Thanks everyone for your insight. I am aware of index linked and Corp bonds, in fact I had an EM bond ETF and US Tips bond in my portfolio. I dont think I really need the stability right now that they provide, and think I would rather diversify towards commodities in the short-medium term. When stability becomes more important, then I can start safe guarding my portfolio, but right now growth is king.

Thanks again for the reassurance.

The problem with commodities is 1) They do not generate income; 2) It costs to hold them as they have to be stored, guarded and insured. Some commodities are perishable, so need to be used otherwise they become worthless. A great deal of commodities trading is done via futures markets, so in theory you can just hold the future instead of the actual commodity. That's in theory. In reality the no free lunch rule upsets that beautiful theory as commodity futures are almost always in contango, which means taking losses as you roll forward futures contracts.

Rather than commodities, you would probably do better holding onto the paper of companies that produce, store, trade and use commodities as these companies are profit generating. In other words, just hold equities and bonds as they generate income.

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Re: Life beyond bonds

#388986

Postby 1nvest » February 23rd, 2021, 12:31 am

hiriskpaul wrote:Rather than commodities, you would probably do better holding onto the paper of companies that produce, store, trade and use commodities as these companies are profit generating. In other words, just hold equities and bonds as they generate income.

What hits bonds will also hit stocks. We're in a era of yield curve controls, we're following Japan's lead. Suspect that the short end will be kept down at near 0%, whilst longer dated might be permitted to rise to 2.5%. And it will be more like the 40's than the 70's i.e. rather than repeated inflation more like periodic inflation spikes (12%) between 2% to 4% inflation years, which will still wipe out cash (and government debt). Stocks can be priced similar to bonds, but where they're undated and variable coupon. Stocks are also leveraged, on average holding 50% debt, so volatility is amplified.

There are three sources of potential rewards price appreciation, income/dividends and volatility capture. Options traders often focus on the latter. All broadly can be as rewarding, if that were not the case then investors would all focus into the more productive/rewarding choice.

Broadly leverage just induces more volatility, not higher rewards. Accordingly many investors opt to de-leverage stocks, such as via 67/33 stock/bond. A more diversified portfolio however will include all options i.e. also some commodities/trading type holdings. Ditto currencies. More often one will do well, and typically compensate for the laggards.

IMO likely long dated bonds will end up having done better than cash/short dated. Since the transition to low yields post 2009 financial crisis for instance and long dated Gilt total returns are already up considerably. Long dated inflation bonds (index linked gilts) offer similar qualities, but with the added benefit of incorporating inflation.


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