JohnW wrote:I think you’re right to be a bit ‘anti-bonds’, but……
I like the analogy of a football team, one needs both attackers (equities etc.) AND defenders (bonds). Each has a separate job to do.
‘for spending expectations greater than 12 years a long bond portfolio can be expected significantly to underperform one of equities ‘
I think it can be useful to distinguish ‘expected returns’ in the mathematical sense ie some measure of central tendency like average, and ‘expected’ returns in the common parlance sense that this is what we expect to happen. Most of us would read your sentence in the latter sense, and if so I think it’s useful to keep in mind that we should really expect other outcomes to occur as an alternative although less commonly. So, equities could do terribly for decades while bonds chugged along; in truth this seems very unlikely if you diversify enough, but French equities started going backwards in about 1918 and took a century to recover. In short, if you choose ‘no bonds’ you need to be prepared to face a lower return than having some bonds. Many of us will give up on ‘likely doing better’ for avoiding something avoidable. Brains are strange things.
The expectation is in the sense of very likely but not certain. So exceptions will occur, though much less probable as period lengthened.
We did extensive studies of UK and US markets, so am really talking about them. Between 1900 and 2005 equities in US and UK always beat bonds by at least 3% p.a. at some point during periods of twelve years (or more).
I don't invest in geopolitically unstable regions. Of course, if one went back to 1900, one would have probably seen Russia, Germany and France as very stable. So vaguely aware of the French example, which might be seen as an anachronism.
‘I'd keep my durations to say seven years unless you have a strong view on falling interest rates.’
If you are going to hold bonds, then duration matching makes sense, so ‘staying at 7 years’ doesn’t manage interest rate risk as well as owning a long and a short duration bond fund which vary in their proportions according to your own timeline.
I agree if one is prepare to sacrifice expected return by holding long bonds. But if holding equities for returns (attackers), I'd hold shortish duration bonds for liquidity (defenders).
‘(excluding for retirees or those nearly at that point) why would someone own a long-term bond fund ahead of a soundly based stock portfolio, or index tracker?’
Having a regular income from a secure job which delivers a DC pension is like owning a massive bond fund; so, for those without such a job bond holdings are an alternative source of comfort.
Secondly, if you can’t stomach the volatility of stocks then bonds help you avoid capitulating at the wrong time.
Thirdly, one might be building a bond ladder of inflation linked bonds.
Lastly, you’re reasonably talking about 12 years as a ‘safe’ timeframe for equities, but 11 years from retirement is not ‘nearly at retirement’.
In recent times I've earned a much higher yield on my equities than most bonds!
I'm assuming most will live to 80 years plus, so can see them being 100% bonds by 70 if they don't like equity volatility.
By the same token, I consider a healthy 54 year old can quite safely hold a decent swag of equities.
‘Over say ten year plus periods inflation has bashed long bonds much more than equities.’
You’ve committed a common sin here of ignoring inflation linked bonds in your reasoning. Perhaps most bond holders don’t hold a substantial proportion of the their bonds as linkers, but there’s a good argument that they should.
Over the 100 or so years we studied linkers were only around for the last 20 or so, and that wasn't when the worst bashing occurred. I readily accept the attractions of a linker yielding 3% real, which they did in the first half of their existence.
I have a memory that there have been 3 or 4 decades in the last century during which stocks returns have not kept up with inflation, but it doesn’t invalidate your argument.
Equities are not a great short term hedge for inflation, but over decades dividends (in particular U.K. ones) have tended to grow by at least inflation plus the GDP growth rates. Longer TOTAL returns in US and U.K. have been around inflation plus 5%.
Lastly, I feel the argument against bonds, or anything else, is less persuasive when that asset class is doing poorly. If you can win the argument when they’re doing well, you’ve really won.
After lastly, if you think you get the best risk adjusted return from investing according to market capitalisation, as per Sharpe, then you need a ‘market’ portfolio which includes a lot of bonds. Clearly, every individual’s circumstances don’t seem well suited to that, but there it is.
My views are long standing, and not really formed by the last year.
Modern portfolio theory majors on returns measured against short term volatility. For short term timeframes I accept the validity of that.
However if we're taking ten to 30 year periods vol extrapolations substantially overstate the risks of holding diversified equities of the major developed regions, e.g. US, U.K. and EU.
That said, at the end of the day one pays ones money and takes ones choice!