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Bonds Still Matter in Rising Interest Rate Environment
'With the Federal Reserve raising interest rates, bond investors may be heading for the hills, but Merrill Lynch Wealth Management head of fixed income strategy Matthew Diczok said that bonds always play an important role in a diversified portfolio.'
Stupid question number one. How can the prospect of rising rates with falling bond prices be better for a diversified (sic) portfolio than cash instead that does not drop in price?
I wonder who it was 30 years back when interest rates were quite high and proclaimed the "bond bull market is over". I'm willing to bet it was someone related to Merrill and Lynch.
I have another dumb question.. Did any one compare the performance of their private bonds vs stock portfolio over a long term 10 or 20 yrs period to see which is superior..
I (just like many investors ) blindly 'autopilot' and keep on buying private Corp bonds stocks without really calculate their true performances....
This year most of my bond funds are down by about 1-3%. Only Osterweis Stragetic Income, OSTIX and Pimco Unconstrainted, PFIUX are up about 1% even after two rate hikes.
My limited number (fortunately) of bond funds have done poorly this year, and MCRDX took a vicious hit today, losing over 1% (the East has certainly turned red for now). Soooo, what's the opinion on floating rate funds? I was happy with FFRHX until my university moved almost all my Fido funds into Vanguard, which I'd planned to do in my rapidly approaching retirement. I'm not sure I can access funds outside of Fido and Vanguard until I retire, so don't titillate me with unaccessible stars.
@johnN You noted: "I (just like many investors ) blindly 'autopilot' and keep on buying private Corp bonds stocks without really calculate their true performances...."
HUH???
You don't know the performance over your years of buys/sells with these bonds?
I've reduced my bond allocation (within my portfolio) while I have raised my cash allocation through the purchase of some CD's (expanding my CD ladder) plus adding to my money market mutual funds. I'm now left with six bond funds (down from nine) and may trim again (in the near term) to three while contiuning to raise my allocation to cash type assets as interest rates rise.
Hi catch... I do know the overall performance but did not really pay much attention to bonds performance vs stocks. I probably can figure out but takes little time. Usually I would find a good Corp bond /funds and would try to hold it for long time... Most of my tsp 401k and buys in private portfolios are indexes.... Did not sell much past yr, some Corp bonds just matured and gain capitals back to buy more Corp bonds.
For taxes the boa or schwab just send us 1099misc and its pretty simple to do w turbotax and automatically filled
@johnN "For taxes the boa or schwab just send us 1099misc and its pretty simple to do w turbotax" >>>Then, you do know your return from these private bonds, yes? My question is directed at the private bonds you have been buying over the years; not integrated bond funds in indexes or active funds. I'll leave this be, as is....too busy here now to pursue.
@STB65, I would stay with FFRHX in the near term. Floating rate funds are high yield bond funds (aka junk bonds), but they tend to do better than corporate, mortgage and treasury bond funds in rising rate environment. Don't know how the transfer from Fidelity into Vanguard would be like. I would recommend you talk with your administrator (university) on the options available. If you decide to rollover your 403(B) into Vanguard as brokerage or other firms, the brokerages have many fund choices besides the one you have now.
I share catch22's approach on bond investing. Stay away from private bonds that take time and skills to manage and be profitable. Something to be said about risk diversification with professional management.
Sven - or you can look at different Funds that you prefer, look at their top 5 -10 holdings, and buy the individual bonds there...most of them hold these bonds for quite sometimes. The other options are to look at corp cusip [something that you like], do google search on them, read the annual reports, search if they have history of bankrupcy, and consider buying them. I usually buy the one that have multiple large companies that hold them. You cannot go wrong w/ ATT corp bonds, MACYS, chevron bonds, etc... They survived the last crash and probably will survive next one. I just don't like to pay the 1-2% yearly fees for these funds.
Or just get ETFs bonds [from PIMCO for instance] they may have similiar returns to their funds and minimal fees.
Did not sell much past yr, some Corp bonds just matured and gain capitals back to buy more Corp bonds.
For taxes the boa or schwab just send us 1099misc and its pretty simple to do w turbotax and automatically filled
Will look at the performance little later on
Tax treatment of bonds, even vanilla ones, is pretty complex. My impression is that nearly everyone gets it wrong. I've a relative who, a few years ago, went to a lawyer (don't ask) to have the relatively straightforward tax return prepared. Even this lawyer made a common error in her handling of market premium of a muni bond (not discussed below - special rules for munis).
The good news is that the brokerages (actually the clearing brokerages) seem to have gotten much better in providing accurate information in the past couple of years. At least that's my experience.
You might buy a bond on the secondary market at less than face (par) value, i.e. at a discount. At maturity, you get the par value. The way this is treated is that each year, it is as though you received interest, i.e. the interest "accrues". At maturity, the total accrual equals your "gain". But you must declare this accrual as interest, not cap gains. (You have the option of declaring the interest annually, but by default it's declared all at once, at maturity.)
You might buy a bond on the secondary market above face value, i.e. at a premium. You may choose to amortize this premium. That means that each year, a little piece of the interest you receive is a partial return of the premium. So when the bond matures, there's no premium left to claim and no capital loss. But each year, since some of the "interest" you received was just return of principal, only part of the interest was taxed. If you don't amortize, then you get to take the capital loss at maturity. Simpler, but from a tax perspective worse, since reducing taxable interest is more valuable than taking a capital loss.
It gets even more complicated when there's original issue discount (OID) involved. Or it can be very simple if you just buy retail Corporate Notes at par and hold them until maturity.
Generally speaking, you should receive1099-INTs along the way (for interest payments), a 1099-B when you sell (automatic at maturity), and possibly 1099-OIDs. I haven't dealt with the latter, since I invest in munis where you don't get these. I don't know when a 1099-MISC would be issued for a bond.
Assuming you're holding to maturity, the easiest way to figure out your return is to look at your purchase confirmation. That should show the yield to maturity. That's the effective yield you get every year, after taking into account discounts, premiums, and coupons.
Here's a good IRS FAQ page. Questions 7 and 8 explain what I wrote above regarding market discount. Questions 9 and 10 explain what I wrote above regarding market premium. The fact that there are so many other questions is a clue that things can be even a lot more complicated. https://www.irs.gov/businesses/small-businesses-self-employed/cost-basis-reporting-faqs
I’ve shifted a portion of my portfolio that was in a short-term bond fund to CDs. You can easily build a CD ladder now that yields better than 2% with no danger of principle loss. When rates appear to be stabilizing, it would be easy to reinvest maturing CDs in a bond fund, if I desire.
I suppose I could regale you all with the YTD total returns of the PIMCO income CEF's but I'm not feeling the need to rub salt in anyones wounds. Research them yourselves if you're a glutton for punishment.
I’ve also shifted 10% of the total assets in our 401K plans into the stable value fund. It’s currently yielding about 2% and it’s been rising. It has actually outperformed the bond index fund in our 401K plan over the past 1,3 and 5 years. If you have a 401K, this is a great option during the current market.
Yikes! A 6 year corporate bond with 9%+ YTM? Great interest, so long as they pay it. Good luck getting your principal back. At 24%+ YTC, I wouldn't count on it getting called soon.
According to both the cbonds page and Goldwasser, it's currently trading around 83 (100 is "par" for bonds). Did I mention that any gain you might realize due to the market discount is taxed as ordinary income?
Comments
I wonder who it was 30 years back when interest rates were quite high and proclaimed the "bond bull market is over". I'm willing to bet it was someone related to Merrill and Lynch.
I (just like many investors ) blindly 'autopilot' and keep on buying private Corp bonds stocks without really calculate their true performances....
Soooo, what's the opinion on floating rate funds? I was happy with FFRHX until my university moved almost all my Fido funds into Vanguard, which I'd planned to do in my rapidly approaching retirement.
I'm not sure I can access funds outside of Fido and Vanguard until I retire, so don't titillate me with unaccessible stars.
You noted: "I (just like many investors ) blindly 'autopilot' and keep on buying private Corp bonds stocks without really calculate their true performances...."
HUH???
You don't know the performance over your years of buys/sells with these bonds?
How do you report taxes upon the sale???
Or do you not yet have any sells?
For taxes the boa or schwab just send us 1099misc and its pretty simple to do w turbotax and automatically filled
Will look at the performance little later on
"For taxes the boa or schwab just send us 1099misc and its pretty simple to do w turbotax"
>>>Then, you do know your return from these private bonds, yes?
My question is directed at the private bonds you have been buying over the years; not integrated bond funds in indexes or active funds.
I'll leave this be, as is....too busy here now to pursue.
If I feel "secure" and if interest rates hit 4% I might consider buying treasuries directly and holding for dear life.
Or just get ETFs bonds [from PIMCO for instance] they may have similiar returns to their funds and minimal fees.
The good news is that the brokerages (actually the clearing brokerages) seem to have gotten much better in providing accurate information in the past couple of years. At least that's my experience.
You might buy a bond on the secondary market at less than face (par) value, i.e. at a discount. At maturity, you get the par value. The way this is treated is that each year, it is as though you received interest, i.e. the interest "accrues". At maturity, the total accrual equals your "gain". But you must declare this accrual as interest, not cap gains. (You have the option of declaring the interest annually, but by default it's declared all at once, at maturity.)
You might buy a bond on the secondary market above face value, i.e. at a premium. You may choose to amortize this premium. That means that each year, a little piece of the interest you receive is a partial return of the premium. So when the bond matures, there's no premium left to claim and no capital loss. But each year, since some of the "interest" you received was just return of principal, only part of the interest was taxed. If you don't amortize, then you get to take the capital loss at maturity. Simpler, but from a tax perspective worse, since reducing taxable interest is more valuable than taking a capital loss.
It gets even more complicated when there's original issue discount (OID) involved. Or it can be very simple if you just buy retail Corporate Notes at par and hold them until maturity.
Generally speaking, you should receive1099-INTs along the way (for interest payments), a 1099-B when you sell (automatic at maturity), and possibly 1099-OIDs. I haven't dealt with the latter, since I invest in munis where you don't get these. I don't know when a 1099-MISC would be issued for a bond.
Assuming you're holding to maturity, the easiest way to figure out your return is to look at your purchase confirmation. That should show the yield to maturity. That's the effective yield you get every year, after taking into account discounts, premiums, and coupons.
Here's a good IRS FAQ page. Questions 7 and 8 explain what I wrote above regarding market discount. Questions 9 and 10 explain what I wrote above regarding market premium. The fact that there are so many other questions is a clue that things can be even a lot more complicated.
https://www.irs.gov/businesses/small-businesses-self-employed/cost-basis-reporting-faqs
FWIW, I'm guessing that they are looking at 3 to 3.5% in 20 months.
ADD: Current @ 4:45 PDST, from the WSJ:
Powell Says Solid Economy Supports More Fed Rate Rises
"Fed Chairman Jerome Powell said economic growth has built a strong case for continuing to lift interest rates"
http://cbonds.com/emissions/issue/250145
The cbonds page cites Goldwasser (Brussels) as the source for price quotes. Here's Goldwasser's page (translated via google) for the bond (give it about a minute to load):
https://translate.google.com/translate?hl=en&sl=nl&u=https://www.oblis.be/nl/bond/hertz-corp-55-15102024-usd-538502
According to both the cbonds page and Goldwasser, it's currently trading around 83 (100 is "par" for bonds). Did I mention that any gain you might realize due to the market discount is taxed as ordinary income?