Huge losses going on in Bonds right now!

[scrumpyjack]

Some posters seem to think that you are either 100% equities or x% equities y% bonds.

My point is that there is no need to hold bonds at all to be diversified from equities. I am about 80% equities, 20% cash which for me is a very high non equity percentage.

The income on fixed interest is so trivial it is not worth the risk and IMO you are better off in cash. When one got 10% interest there might have been an argument to take the risk, even though the interest was highly taxed.

If you want to speculate on future interest rates, by all means hold bonds - (that is what you are doing). If you want a safety net diversification from equities my choice is cash. Fixed interest seem to me to be a one way bad bet. My safety net is not for betting.

[GrahamPlatt]

There is another current thread asking whether house prices have now peaked. I think it is relevant to this bond price thread.

Period 1990-1999 was exceptionally good for equities;
Period 2000-2009 was bad for equities, we lost money in real-terms and we would have been better-off investing in Cash-ISAs.
Period 2010-2019 was good for equities.
This is illustrated by the table below showing outcomes for £5,000 invested at the start of the period.
As with all examples start and end dates matter, 2000-2009 included two stock-market crashes.
Period Length Inflation Cash-ISA Shares-ISA
1990-1999 10 years £6,803 £9,800 £18,762
2000-2009 10 years £6,069 £7,727 £5,457
2010-2019 10 years £6,169 £5,963 £10,35
( from here https://swanlowpark.co.uk/ftseannual)

You’ll notice that the earliest decade there was when interest rates were at their highest, and the housing market stumbled. Bonds presumably did not do well either. But equities did.

Edit. Apologies, the table has not copied across properly.

[Newroad]

Hi SalvadorHardin.

Re your view

"Locking in at less than 2% yield (long gilts) at a time when inflation is well over 5% and heading for 10% is throwing money away, guaranteeing a real loss"

then if that is what happens, you may be right. However, I'm not convinced that's how inflation is going to play out. There are a lot of base effects from 2021 which may yet wash through, and energy prices and the Fed (and other central banks) may quash economic activity.

So, in short, we'll see! I'm putting my money (or at some level, my kids' money) where my mouth is - I'm topping up VAGP as part of a rebalance this month.

Regards, Newroad

[NotSure]

A topical article (for this thread) in the WSJ (link should bypass paywall)

Bond Rout Promises More Pain for Investors

.....The worst bond rout in decades shows few signs of abating, threatening further pain for both investors and borrowers.

Battered by high inflation readings and sharp messages from Federal Reserve officials about the need for interest-rate increases, bond prices have tumbled this year at a pace investors have rarely seen. In the first quarter, the Bloomberg U.S. Government bond index returned minus 5.5%, its worst performance since 1980. This month, it has lost another 2.4%.......

https://www.wsj.com/articles/bond-rout-promises-more-pain-for-investors-11650122040?st=6vij77y1s6aevar&reflink=desktopwebshare_permalink

[vand]

Some posters seem to think that you are either 100% equities or x% equities y% bonds.

My point is that there is no need to hold bonds at all to be diversified from equities. I am about 80% equities, 20% cash which for me is a very high non equity percentage.

The income on fixed interest is so trivial it is not worth the risk and IMO you are better off in cash. When one got 10% interest there might have been an argument to take the risk, even though the interest was highly taxed.

If you want to speculate on future interest rates, by all means hold bonds - (that is what you are doing). If you want a safety net diversification from equities my choice is cash. Fixed interest seem to me to be a one way bad bet. My safety net is not for betting.

IMO Cash is not an allocation decision but a market timing decision.

No serious financial advisor would advocate holding a 80/20 stock/cash portfolio indefinitely because the cash isn't doing any work, just diluting your returns, and gradually losing purchasing power.. sometimes at a slower rate, sometimes at a faster rate depending on the going rate of inflation at the time, but always acting as a drag at some level.

So you are then playing a game of when to redeploy the cash - fine, but again this is a more a timing decision aimed at outsmarting the market, not an asset allocation decision designed to hold up to your risk tolerate through thick and thin.

I gather that it may work for you, given your style of investing and tax arrangement, because I recognise that a huge part of investing is doing what feels most natural to you. However, it is not a strategy that you holds up to any sort of objective scrutiny.

[scrumpyjack]

I never said indefinitely. Anyway nuff said!

There is an interesting item on Bloomberg about this, don’t know if it is paywalled.
https://www.bloomberg.com/news/articles ... f=mwlrlP7l
Peter van Dooijeweert, managing director of multi-asset solutions at Man Group, who joined this week’s “What Goes Up” episode to discuss what he sees as the right assets to be in now. The 60/40 portfolio isn’t exactly “dead,” he says, but “my question is, was it ever really alive?”

[88V8]

But there is no reason to hold fixed interest.

There is, or more so was; the yield and more so the certainty of payment. None of the FI that I hold and have held has failed to pay during the decade I have been buying FI, mostly prefs which mostly now are sold, and a few corporate bonds.
Never bought gilts.

Nowadays, istm that it only makes sense if one has surplus income and can continue buying as values fall and yields rise.
And if one will live long enough that we reach the bottom at which point one will have a bucket-load bought at increasingly attractive prices.
And if it's tax-sheltered. Offsetting the fall in value through buying more FI out of taxed income is unlikely to work.

Lately I've been buying ITs that major in FI; Axiom AXI, Middlefield MCT, CQS New City NCYF, Shires SHRS.... hopefully their managers can square the circle.

V8

[GrahamPlatt]

Some posters seem to think that you are either 100% equities or x% equities y% bonds.

My point is that there is no need to hold bonds at all to be diversified from equities. I am about 80% equities, 20% cash which for me is a very high non equity percentage.

The income on fixed interest is so trivial it is not worth the risk and IMO you are better off in cash. When one got 10% interest there might have been an argument to take the risk, even though the interest was highly taxed.

If you want to speculate on future interest rates, by all means hold bonds - (that is what you are doing). If you want a safety net diversification from equities my choice is cash. Fixed interest seem to me to be a one way bad bet. My safety net is not for betting.

ISTR there was a “competition” over asset allocation back in the day on TMF. I think that Gengulphus won, by leaving his allocation entirely in cash. Cash is King was the lesson of that period.

[vand]

For some historical context:

Take US Stocks & Long term US bonds

$10,000 invested in stocks from September 1981 today would have grown to $846k, a x84 fold increase nominally, or still an impressive x27 fold increase when accounting for inflation terms.

$10,000 invested in long term US Treasuries would have similarly returned $373k, a x37 fold increase nominally, or a x12 increase accounting for inflation

However, that only tells the broad story. When look closer the breakdown of those returns are scarely believeable.

Bonds were pretty much keeping pace with stocks right up the big tech trade really started to take off around 2016. Then when the Covid crash happened it bought them back to level pegging. At the end of March 2020 the total return of the Bond fund stood within about half a percent of the total return of the stock fund (that's within 1% of the total nominal return since 1981, not 1% of the annualised return). The stock portfolio stood at $466k, and the bond portfolio stood at $445k.

What's more, bonds delivered that return with much less volatility than stocks - suffering at worse a 20% drawdown whereas stock investors had to endure several drawdowns larger than that - the greatest being the 50% fall suffered during the GFC.

To challenge the idea of "who needs bonds?" you could have just as well asked "who needs stocks?" for the near 40-year stretch from 1981-2020.

We can recall for ourselves the fortunes in both asset classes since March 2020 - as equities have soared to all time highs in the great post-covid reflation the stock portfolio has grown to $846k, while the decline in the bond market has seeen bond portfolio currently valued at $373k.

Or to summarize it another way - stocks have more than doubled the return of bonds over the previous 41 years... and just about ALL of that outperformance has only been realised in the last 2 years. Crazy, eh?



60/40 has worked pretty damn well as you can see

[scrumpyjack]

The trouble is that that return on bonds is substantially down to the huge reduction in inflation achieved in the west in the early 80s and the long gradual reduction in interest rates over the subsequent decades. My parents and grandparents generations had a very different story and lost hugely by doing the patriotic thing and investing in 2.5% Consols and 3.5% War loan. Such long term changes in interest rates are ultimately a zero sum game. So to extrapolate a case for bonds based on that rate decline over the decades does not make sense to me and is very dangerous given where rates are now and the possible outlook for inflation.

[GoSeigen]

I'm one of the long-term bond investors on this forum. Over the past 18 months my star performer is a fixed interest security. It's at least a 4-bagger over that period, so no, I don't agree that only real-terms losses are guaranteed in bonds. There is almost always something interesting to buy in the fixed interest space. My star performer still yields some 7% or more, so I'm not too worried about a bit of inflation in the short term. If the thing happens that practically no-one on this forum thinks can happen, i.e. inflation drops back again and yields fall then there is still scope for very good profit in fixed interest. One just needs to be sensible about when and how much to buy and sell.


GS

[BT63]

Or to summarize it another way - stocks have more than doubled the return of bonds over the previous 41 years... and just about ALL of that outperformance has only been realised in the last 2 years. Crazy, eh?

The really worrying thing is that if bonds and shares matched each other over almost all of the last 40 years, with bond yields currently around 2 - 3% nominal and zero real even if inflation was at target, that's pointing to very low future stock market returns.

Based on historical valuations (P/E, CAPE), US shares look very expensive and likely to deliver single-digit negative annual average real returns over the next decade so low bond yields could well be pointing to very poor US equity returns going forward and the last two years of stock market outperformance could easily revert.

I've been wondering whether the bond market remaining at low yields despite quite high inflation was TINA, complacency, stupidity or maybe - as is often the case - the bond market has priced things fairly well and the current inflation shock will cause a sharp recession which brings inflation back down to target and pops asset bubbles.

[NotSure]

The really worrying thing is that if bonds and shares matched each other over almost all of the last 40 years, with bond yields currently around 2 - 3% nominal and zero real even if inflation was at target, that's pointing to very low future stock market returns.

The article I posted above concludes:

.....Guessing the final destination of interest rates is extremely difficult, he said, but one sign that the Fed might need to do more than currently expected is that stocks, as a whole, have only experienced modest declines, with the S&P 500 down 7.8% year-to-date.

Right now interest-rate derivatives show that investors expect the Fed to raise its benchmark federal-funds rate from its current level between 0.25% and 0.5% to just above 3% next year.

If the market starts pricing in a 3.5% fed-funds rate and stocks fall another 10%, that might suggest that the Fed will stop at 3.5%. But if stocks barely budge, “That tells you [Fed officials] have to do more,” Mr. Ren said.

[vand]

I'm one of the long-term bond investors on this forum. Over the past 18 months my star performer is a fixed interest security. It's at least a 4-bagger over that period, so no, I don't agree that only real-terms losses are guaranteed in bonds. There is almost always something interesting to buy in the fixed interest space. My star performer still yields some 7% or more, so I'm not too worried about a bit of inflation in the short term. If the thing happens that practically no-one on this forum thinks can happen, i.e. inflation drops back again and yields fall then there is still scope for very good profit in fixed interest. One just needs to be sensible about when and how much to buy and sell.


GS

You are surely operating largely in the distressed debt sector then, rather than anything investment grade.. the long term performance in junk bond funds like JNK and HYG shows huge capital losses over time. Maybe you've been good enough and/or lucky enough to largely avoid those bonds that have defaulted, but it is not proven workable passive strategy.

[Newroad]

Hi Vand.

I'm not sure that's quite representative for all instruments relating substantially to "junk" (aka "high yield") bonds. Here is the ten year record of two that I am currently in (from TrustNet) ...



the better of the two is BIPS, the other HDIV. At some level, their performance is slightly understated due to their current discount to NAV (they are Investment Trusts). Not as good as a global equity tracker over the period (and not GoSeigen's 4-bagger) but not terrible all the same.

Further, similar to (but not quite as much as) VAGP, they offer some diversification.

Regards, Newroad

[GoSeigen]

I'm one of the long-term bond investors on this forum. Over the past 18 months my star performer is a fixed interest security. It's at least a 4-bagger over that period, so no, I don't agree that only real-terms losses are guaranteed in bonds. There is almost always something interesting to buy in the fixed interest space. My star performer still yields some 7% or more, so I'm not too worried about a bit of inflation in the short term. If the thing happens that practically no-one on this forum thinks can happen, i.e. inflation drops back again and yields fall then there is still scope for very good profit in fixed interest. One just needs to be sensible about when and how much to buy and sell.


GS

You are surely operating largely in the distressed debt sector then, rather than anything investment grade.. the long term performance in junk bond funds like JNK and HYG shows huge capital losses over time. Maybe you've been good enough and/or lucky enough to largely avoid those bonds that have defaulted, but it is not proven workable passive strategy.

Recently, yes, but if you bought US treasuries as recently as 2018 you had a gain in two years of over 60% which is not to be sniffed at given the S&P went nowhere over the same period.

Similarly if you buy the 30-year UST today and its yield reverts to its long-term moving average in the next 12 months you make some 25%; not saying it's a good time to buy, just highlighting the maths.

GS
P.S. And the point is: don't automatically write off all FI as many do, there are often gems to be found.

[OhNoNotimAgain]

The research is compelling, however, that, at least over the last 50 years or so, a balanced portfolio has delivered more return for the amount of risk taken on than a straightforward all-stock portfolio.

The data says otherwise:

Accordoing to the Barclays Equity Gilt Review the real annualised investment return from UK equities has been 5.3% in the 50 years to end 2020.

Gilts delivered 3.6% on the same basis.

It doesn't quote corporate bonds over 50 years, but the data for the previous 20 years shows 3.2%, against 3.1% for gilts. To be fair, UK equities only delievered 1.7% a year over those 20 years.

[Newroad]

Hi OhNoNotimAgain.

It depends on whether you (or anyone else) is taking a naive/trivial view. Such a comparison is spurious unless you consider rebalancing (and in doing so, how often and by what rules).

There are a number of decent sites which allow you to do reasonable versions of this, typically using quarterly or annual rebalancing. Many of them are US focused, but they will be illustrative.

Regards, Newroad

[vand]

The research is compelling, however, that, at least over the last 50 years or so, a balanced portfolio has delivered more return for the amount of risk taken on than a straightforward all-stock portfolio.

The data says otherwise:

Accordoing to the Barclays Equity Gilt Review the real annualised investment return from UK equities has been 5.3% in the 50 years to end 2020.

Gilts delivered 3.6% on the same basis.

It doesn't quote corporate bonds over 50 years, but the data for the previous 20 years shows 3.2%, against 3.1% for gilts. To be fair, UK equities only delievered 1.7% a year over those 20 years.

I know the raw return numbers, but I I said that the mixed portfolio has delivered more return for the amount of risk taken - look at the annual volatility and drawdown in each asset class and then for mixed portfolios.

Investing is about managing risk as much as it is about capturing return; they are 2 sides of the same coin, and you cannot consider one without the other. An well balanced portfolio that blends different asset classes efficiently will delivers the maximum (expected) return for the amount of implied risk. This has traditionally be fulfilled by the 60/40 blend - it captures about 90% of the upside while reducing the volatility by about 40%.

Compare the CAGR, Stddev, Sharpe ratio & drawdown of the blended 100% stocks vs 60/40:

[BT63]

It doesn't quote corporate bonds over 50 years, but the data for the previous 20 years shows 3.2%, against 3.1% for gilts. To be fair, UK equities only delievered 1.7% a year over those 20 years.

On a tangent, so I won't take it too far, but UK equities are good value for money compared to other major global indices or bonds, and not expensive compared their own longer-term valuation trends.
I think UK shares have good potential for upside mean-reversion and modest long-term outperformance relative to most other assets.