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Robert Powell: Don’t stop believing in bonds

Robert Powell: Don’t stop believing in bonds

2021-03-05 01:08:34
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Given the current doom and gloom, with the occasional relief from the interest rate hike, does it still make sense to invest in bonds when you are saving or living in retirement?

Well, it certainly didn't make sense when interest rates were (and still are) historically low. Like, who in their right mind wants to earn 0.318% on a 10-year treasury, which is what it earned about a year ago?

And it may not make sense now that rates have risen from the March 2020 lows. Remember, the principal of your bond decreases as interest rates rise.

But what people may miss in today's volatile environment is the role bonds should or should play in a portfolio.

Security, not income

According to Larry Swedroe, co-author of Your Complete Guide to a Successful Retirement and research director at Buckingham Strategic Wealth, the most important role of fixed income in your portfolio should be security, not return, not income, not cash flow.

In other words, when everything else goes to the pot, when the stock crates, bonds are there to protect the principal – at least at maturity.

In addition, bonds are there for diversification purposes. Bond prices should increase in value when other assets, such as stocks, fall in value, and vice versa.

"Rule # 1 that every investor must adhere to is that you want to make sure your portfolio has enough safe, fixed-income securities to moderate the portfolio's overall risk to an acceptable level," he said. "Because if it doesn't, and stocks go down, whatever they do once every 10, 15 years or so, 40, 50% or whatever, you're going to exceed your risk tolerance."

At best, he said, you can't sleep, enjoy your life and everything else. And, worse, you'll be dealing with the worst thing you could do: panic and sell. "And once you sell … I think you're pretty much doomed to failure unless you're just lucky."

In short for Swedroe: "You have to have enough safe tires."

How much you need to invest in bonds, stocks and cash now is, according to Sébastien Page, author of Beyond Diversification and head of global multi-asset at T. Rowe Price, “without a doubt the single most important decision an investor makes to put together a portfolio. set. "

How much to invest in bonds?

How much you should invest in fixed-income securities depends on your ability to take risks, according to Swedroe. And your ability to take risk is determined by four factors: your investment horizon, the stability of earned income, your need for liquidity, and options that can be exercised when there is a need for a Plan B. In addition, Swedroe said you own bonds. whose maturity is outside your investment horizon, takes more risk than is inappropriate.

Ability to take risks

Investment horizon (years)

Maximum share allocation (%)

0-3

0

4

10

4

20

6

30

7

40

8-9

50

10

60

11

70

12-15

80

16-19

90

20+

100

Source: Your Complete Guide to a Successful and Secure Retirement

Like Swedroe, Page also believes that the decision depends in part on a person's human capital, the current value of your future salary income. And once you include a person's human capital, which, according to Page, works more like a stock than a bond, a balanced portfolio with a healthy allocation to stocks, not bonds, is the answer.

To be fair, the allocation to bonds is not static over the life cycle in Page of Swedroe's model portfolios.

For example, in Page's model portfolios, you would allocate 15% to bonds in the 20 years before retirement, 45% at retirement, and 69% about 20 years after retirement, which is close to the rule of thumb that would have you subtracting your age from 120 to get determine how much you invest in stocks and how much in bonds. So if you were 47 you would invest 73% in stocks and if you were 87 you would invest 33% in stocks.

The right bonds depend on your investment goals

Investing in the right bonds is just as important as investing in bonds, said Massi De Santis, a certified financial planner with DESMO Wealth Advisors. According to De Santis, the right bonds help you avoid unnecessary risks and get the most out of your portfolio, especially in a low interest rate environment.

What are the right tires? That depends on your investment objective.

For growth portfolios, De Santis recommends diversifying the bond component across the bond universe, including government bonds, government agencies, investment-grade corporate bonds and global bonds. The duration should be in the intermediate range (about 5-7 years).

The Vanguard Total Bond Market Index Fund ETF
BND,
-0.32%

the SPDR Bloomberg Barclays International Treasury Bond ETF
BWX,
-0.70%

and iShares Core US Aggregate Bond
AGG,
-0.29%

are ETFs that would work for this purpose.

For conservative portfolios, De Santis recommends high-rated short to medium bond maturities that are similar to the target horizon. The iShares 0-3 month government bond
SGOV,
+ 0.01%

SPDR Bloomberg Barclays 1-3 Month T-Bill ETF
BIL,

Vanguard Short-Term Treasury Index Fund ETF
VGSH,

Vanguard Short-Term Bond Index Fund
BSV,
-0.11%

iShares Core 1-5 Years USD Bond ETF
ISTB,
-0.02%

and iShares 1-3 Year International Treasury Bond ETF
SHG,
-0.10%

are ETFs that would work for this purpose.

And for income-oriented portfolios, De Santis recommends government bonds, inflation-protected, and investment-grade corporate bonds where the target duration is the average maturity. The iShares TIPS Bond ETF
TIP,
-0.38%

and the Vanguard Long-Term Bond Index Fund ETF
BLV,
-0.79%

are examples of ETFs that would work for this purpose.

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