Bonds: Why you should invest in short-term bonds over longer-term securities.

FD1000

SA article (https://seekingalpha.com/article/4625927-federal-funds-rate-is-going-down-what-about-bond-prices?mailingid=32345426&messageid=2850&serial=32345426.3245)
I can read all SA articles for free for years and never paid anything.

Quote (excerpts)
"Summary
The Federal Reserve will likely cut rates next year.
Rate cuts might impact bond prices, depending on their magnitude, and on market expectations.
Market expectations are very dovish, and more dovish than the Fed. Higher bond prices seem unlikely.
A look at federal reserve rates, expectations thereof, and their possible impact on bond prices follows.
.................................
Investor Takeaway
Investors expect significant federal reserve interest rate cuts in the coming years, and are pricing treasuries and other bonds accordingly. Due to this, small rate cuts will likely have limited impact on bond rates and prices.
Under these conditions, I would personally invest in T-bills and other short-term bonds over longer-term securities. These have higher yields and lower interest rate risk. Longer-term securities yield more, are riskier, and are pricing-in an aggressive set of fed hikes already."

hank

I believe the risk / reward prospects for longer dated fixed income securities are not favorable at this time. Locking in duration is a gamble I’d rather not take.

Sven

Don’t think it is all or nothing approach. We use active managed bond funds to help us on the duration aspect of bonds.

hank

Sven said:

Don’t think it is all or nothing approach. We use active managed bond funds to help us on the duration aspect of bonds.

Same here. An experienced manager best to navigate difficult waters. I tried using a 10-20 year Treasury ETF as a small hedging tool against sharp equity sell offs. The idea wasn’t to make any money, but to smooth out the ride. I still like the concept, but found the volatility too much for me to handle. Made a few pennies over a week and got out.

FWIW - Rick Rieder, highly experienced lead fixed income manager at Blackrock, is managing a new fixed income ETF (BINC) that received favorable press recently. (Might have been in Barron’s - not sure.) I don’t own. But others might want to take a look.

Crash

I don't bet rate cuts are coming anytime soon, nor in 2024, either. With the inverted yield curve, short-term stuff makes sense, without getting fancy about it. I prefer OEF bond funds. Let the Fund Managers play it the way they know how. The cost of buying an individual bond is normally prohibitive for individuals. Although, I recall Massachusetts issued "mini-bonds" for $100 each, many years ago. That sort of thing COULD be done.

FD1000

Diversification, duration, and experience don't guarantee better risk-adjusted performance, especially in markets as we had since early 2022.
You can own 10 bond funds and still have higher volatility + lower performance.
The article predicts stability for the coming months to 2024. The Fed funds watch tool predicts mostly a stable 5.25-5.5% until March 2024.
Even if a fund has experienced managers, they can't do too much. Most lost money in 2022.
Sometimes, special funds do better than most.

Example:
DODIX+PIMIX are great funds + more flexible in their categories.
Since 01-01-2022 both are down. RCTIX is up with lower volatility
(https://schrts.co/hieByVgX)

YTD: RCTIX still made more with lower volatility. See the chart (https://schrts.co/nWzudGjU)
I can add 5 more funds with different duration + bond ratings + flexibility and all 7 still made less than RCTIX. There are better options than RCTIX YTD.

CLAY62

If one has the wherewithal to buy individual bonds utilizing an SMA, is this an advantage in this environment vs. buying mutual funds? I've read some analysis that argues in both directions. Appreciate any advice as SMA purveyors certainly have their pitch regarding "holding to maturity, etc.". However, volatility seems to be the same.

hank

Speaking of volatility, I’m getting the sense that short sellers are currently very active in the long Treasury markets. These guys can be merciless and drive out smaller investors. I don’t know what that implies from an investment standpoint. Just be aware of the game being played and that that contributes to volatility - especially on big down days.

PLW is an ETF investing in a Treasury ladder. (But it might behave differently than building your own ladder.) A number of folks here build their own.

”The investment (PLW) seeks to track the investment results (before fees and expenses) of the Ryan/Nasdaq U.S. 1-30 Year Treasury Laddered Index. The fund generally will invest at least 80% of its total assets in the components of the index. Strictly in accordance with its guidelines and mandated procedures, Nasdaq, Inc. oversees the index, and which seeks to measure the potential returns of a theoretical portfolio of U.S. Treasury securities with a yield curve based upon 30 distinct annual maturities.” From Morningstar

I don’t do ladders - but laddering on your own makes a lot of sense. Others may have suggestions.

BenWP

@hank: I’ve never built a Treasury ladder and I am loathe to let PLW do it for me. It went to the top of M*’s class by losing 3.76% in 2021, 19.97% in 2022, and 0.99% YTD. It must be a tough racket, that Treasury stuff. How much did the middling or lousy funds lose during those periods?

FD1000

I have never invested directly in a treasury fund because this category has a high correlation to rates and rates are unpredictable short term. PLW did poorly YTD. See a YTD chart of VGIT(inter Gov/treasury) + DODIX(good generic higher rated bond fund) + PLW(has a longer duration > 10 years). (https://schrts.co/AEsZUCwD)
You can see that DODIX has the best performance + the lowest volatility. PLW has the worse performance + the highest volatility of 7.5+%.(peak to trough).

yogibearbull

Unfortunately, bond ladders also have a duration. A 10-yr bond ladder may have a duration around 4-5 years.

So, the ETF PLW has duration 10.80 (M* Portfolio tab below) and SD 9.07 (M* Risk tab) - plenty volatile!
https://www.morningstar.com/etfs/xnas/plw/portfolio

But if you had a private/DIY ladder, you would let each bond in the ladder mature at par, so the duration effect will be only if you have to liquidate ladder prematurely, not otherwise.

Just because a fund uses the term "ladder" doesn't mean that it will act as private/DIY ladder. Some DIY stuff you really have to do yourself and cannot farm it out to funds.

CLAY62

I'm comfortable laddering treasuries but individual buys on IG corporates have been tougher for me so got an SMA but tend to look at it too much. Often it zigs when OEFs/ETFS zag and hard to figure out. Barbell approach with really long maturities but duration of 7 and has been volatile of late. Advisor at Fidelity and others have been dismissive of mutual funds - even their own FBND for instance - saying SMA's are far superior. Vanguard issued a white paper stating that the superiority of SMA's is illusory.

yogibearbull

@CLAY62, brokers have higher fee incentives to pitch SMAs or advisory accounts. But ask them for multiyear, after-fee performance records. The posted data elsewhere for advisory programs don't indicate superior performance than good retail funds available. Also, as explained in my previous post, if you do have a SMA ladder, DON'T LOOK at it monthly or quarterly because it WILL fluctuate according to duration (even brokered CDs fluctuate for other reasons).

CLAY62

Thanks Yogi. Expense ratio for SMA is .3% so reasonable but investment minimums are such that you have to make a pretty big directional bet on interest rates vs. funds/etf's. You are right regarding "don't look". Can be a bad habit of retirees.

FD1000

I disregard the expense ratio because many bond indexes expense is very cheap but it's a plane without a pilot. BND, one of the most recommended indexes lost a lot in 2022 and made less than 1% in 2023.
Treasury ladder didn't help you either because treasuries are not where you want to be.

hank

BenWP said:

@hank: I’ve never built a Treasury ladder and I am loathe to let PLW do it for me. It went to the top of M*’s class by losing 3.76% in 2021, 19.97% in 2022, and 0.99% YTD. It must be a tough racket, that Treasury stuff. How much did the middling or lousy funds lose during those periods?

LOL - Not a wreckemendation . I spent a few hours 1 night looking for weird bond ETFs. You can track just about any bond index. I started with a small buy of the 10-20 Treasury index.. Could only stand the heat a week. Really volitile. I’ve never built a ladder either - but have fallen off a few.

‘22 was a rough year for bonds. So the numbers @BenWP cited don’t surprise me. I looked at 3 “tamer” bond or fixed income funds for comparison. Each sported a -11% return in 2022: DODIX, RPSIX, PRGMX.

BTW - I’ve saved 5-6 various bond ETFs to my watchlist if anyone needs a suggestion. The Bloomberg 10-Year Target Index (XTEN) looks about as aggressive as I’d want to be. Unlike Mr. Bond, I’d suggest it be “shaken” (traded often) rather than “stirred” (held in hand).

Sven

Took profit from stocks and gold several weeks ago and now adding to bonds including RiverPark Strategic Income, institutional shares, RSIIX, and short term T bills.

CLAY62

I would appreciate the tickers for those 5 to 6 bond ETFs. I'm perplexed as to bonds. Long end ticking up, 10 year clinging to 4.2 but corporate spreads tight so you don't seem to get much extra with IG intermediates. My SMA folks advised me to move from floating rate corporates to a longish duration intermediate when SVP went under, probably thinking Fed was done and had broke something - shortly thereafter a decent amount of gains evaporated and now I'm below my original investment cost from a year ago. Supposed to be so superior to mutual funds . . . .

yogibearbull

Not a bad idea to get off the FR/BL train soon. When rates stop going up, these act just as short-term HY from low-rated companies that cannot access the normal bond market. There is a recession risk too, but the is consensus that it has been cancelled. Bankrate is showing 30-yr mortgage at 7.40%, so at least the housing may be cooked.

BTW, Treasury 2-yr FRNs are different - they yield 3m T-Bill yield plus a spread; they reset weekly.

Sven

The recession debate is ongoing since conflicting economic data are posted on regular basis. Inflation is slowing but it is far from the 2% Fed target. Tight labor market (service cost), increased manufacturing (GDP) and consumer spending are counteracting the inverted yield curve’ prediction. Some pundits including David Rosenberg maintains their views. So we will see how the market plays out this year…

hank

Kind of thought there might be a buying opportunity on the long end. But a FT article in recent days casts that into question. It highlighted the Fed’s massive selling of long dated bonds on a regular basis over the past year. It’s called “quantitative tightening” and is the opposite of the ”La-la-land” (quantitative easing) approach first undertaken by Bernanke and later during the pandemic. Article claims this is the reason long rates are rising. There will be a buying opportunity at some point. But hard to know when.

(Apologies. FT makes it near impossible for its subscribers to share articles.)

Sven

Thank you for your summary that is just as informative. A gradual shift to intermediate term bonds over 3-6 months would work as well. Still prefer active managed core bond funds. US dollar has been falling so oversea bonds are attractive too.

FD1000

Until the end of May 2023, I traded HY Munis. Since then, I'm in funds with short duration and low volatility.
I don't listen to a perma bear such as David Rosenberg. Most generic typical core funds can't handle the situation too well. DODIX, a good fund, made YTD just 1.6% with high volatility of 4% from peak to trough, while MM=VMFXX made 2.8% and RSIIX/RSIVX+CBLDX did a much better job.
see (https://schrts.co/mnyiJCSG)

dtconroe

yogibearbull said:

Not a bad idea to get off the FR/BL train soon. When rates stop going up, these act just as short-term HY from low-rated companies that cannot access the normal bond market. There is a recession risk too, but the is consensus that it has been cancelled. Bankrate is showing 30-yr mortgage at 7.40%, so at least the housing may be cooked.

BTW, Treasury 2-yr FRNs are different - they yield 3m T-Bill yield plus a spread; they reset weekly.

My research on FR/BL, has indicated they do well in "both" flat and rising interest rate environments. They performed very well for me in the from about 2010 through 2017, when rates hovered around zero for many years. They started struggling more when rate hike fears started getting serious in the 2018 and later years, and then like a lot of junk bond funds, they did not do well when bonds as a whole tanked in 2020, but as rates started rising rapidly after the 2020 crash, they started being one of the strongest bond oef categories. They may not perform as strongly now that rate hikes "appear" to be flattening out, and other bond categories may started performing better, but I am not in the camp that says FR/BL will not still offer some attractiveness. The real threat is if the FEDs start cutting rates, but as long as inflation is still relatively higher than the FEDs desire, I am not expecting any aggressive rate cutting actions. I am in the camp that we may bump around for the next year, without any strong rate hike or rate cut direction.

Just My Opinion, and I do not currently own any FR/BL funds, and haven't for a few years.

yogibearbull

There are now related FR threads - on Treasury FRNs, investment-grade FRs, regular FR/BL (really HY). Each will react differently to economic conditions. But rising or steady rates will be the most attractive environment for all of them.

My older comments were for FR/BL that were HY. A problem with many of these is that many are from banks to shaky companies that cannot access the regular bond market. For them, it become hard to roll FR/BL when times get tough. Banks are also under more strict regulatory pressures.

I have just gotten into Treasury FRNs via Auctions or ETFs.

FD1000

(https://seekingalpha.com/article/4629757-how-do-t-bills-bil-stack-vs-other-asset-classes?mailingid=32449091&messageid=2850&serial=32449091.7608)
See below several excerpts.

How Do T-Bills And BIL Stack Vs. Other Asset Classes?
Aug. 19, 2023 5:31 AM ETSPDR® Bloomberg 1-3 Month T-Bill ETF (BIL)2 Comments
Juan de la Hoz

Summary
Higher Fed rates have led to higher rates on most bonds and fixed-income securities.
T-bills have benefited more than most and currently yield +5.4%.
An analysis and peer comparison of t-bills follows.

In my opinion, the overall risk-return profile of t-bills is currently quite attractive, due to their above-average yields and extremely low level of risk. As such, t-bills are fantastic investment opportunities, and particularly well-suited for more risk-averse investors. Investors seeking higher yields might prefer riskier, higher-yielding securities, while more dovish investors might prefer longer-term securities, to lock-in their yields.

I'll be focusing on the SPDR Bloomberg 1-3 Month T-Bill ETF (NYSEARCA:BIL) for this article, but everything here should apply to most other t-bill funds, and to the securities themselves.
BIL invests in t-bills, which are securities issued by the U.S. Federal Government, the strongest, most credit-worthy institution in the world. Credit risk is effectively nil, as are default rates, barring an unprecedented U.S. default. Due to this, BIL should see negligible losses during downturns and recessions, outperforming high-yield bonds and senior loans. On the other hand, the fund lacks the flight-to-quality effect of treasuries, especially longer-term treasuries, and so should underperform these securities during recessions.
BIL invests in t-bills, securities with very low maturities, duration, and interest rate risk / exposure. All of these are significantly lower than average, lower than most other bond sub-asset classes, but roughly comparable to senior loans.
Conclusion
T-bills currently offer investors above-average yields, very low overall risk, and a very strong overall risk-return profile. As such, and in my opinion, t-bills are fantastic investment opportunities, and particularly well-suited for more risk-averse investors.

Observant1

T-Bills are currently very compelling.
Owning longer duration government bonds may be more profitable in the not-too-distant future.

AndyJ

Observant1 said:

T-Bills are currently very compelling.
Owning longer duration government bonds may be more profitable in the not-too-distant future.

Agreed. 2y and 3y notes are getting more interesting, especially assuming rates will peak in 2024.

Old_Joe

@AndyJ- yes, that's my thinking also.

FD1000

3-6 months T-Bills are paying more than CD. Easier to buy big amounts instead of several institutions for CDs + you can sell any time with no penalties + no state tax.

AndyJ

@Old_Joe, the 2y has topped 5%. Question now is how close it'll be to that magic number by the time the next auction rolls around on the 28th.