Bonds

[y0rkiebar]

Slight aside, but does anyone know why yieldgimp highlights certain rows?

I wondered this, looks like the highlighted bonds appear in the Charting page

[GeoffF100]

Hi All.

Quick question on duration. Imagine that a given person

Is currently 55
Plans to retire at 60
Expects/hopes to live to 90

In broad terms and all things being equal, to match, do they need a duration of 20 years (75 being the average of 60-90: 75-55=20) either actual or synthetic, e.g. 2/3 30 year gilts, 1/3 cash?

Regards, Newroad

If your example is to spend during all of retirement for 30 years, the spending duration calculation is 5 (years to start) +( (1+2+3....30)/30) = ~20.
The bonds/cash duration matching strategy uses a bond fund, the duration at or above the spending duration (assuming the yield curve slopes up giving longer bonds better returns than shorter). I have a sense that a single 30 year (or 20 year maturity/duration) bond holding instead of a fund would not be as good, but no idea why. Differences include: a fund reinvests dividends a lot easier than you could (thus buying cheap bonds if rates have risen); fund duration stays constant but the 20 year bond duration keeps shortening; I've never read anyone commend one bond. But, the best answer might come from a spreadsheet to model what happens with rate changes. Over to you.

Your calculation for bond duration is not quite right. You also need to take account of the coupon payments, which have the effect of shortening the duration:

https://www.investopedia.com/terms/d/duration.asp

Suppose that the government has been kind enough to issue gilts in a ladder so that the same value (or index linked value for linkers) matures in each year up to a maximum of 30 years, and reinvests the maturing gilts each year to preserve the 30 year ladder. If you buy a gilt tracker, the duration moves further and further beyond your expected date of death and you grow older. That will not match your liabilities. If you are restricted to funds and you want to match liabilities, you would need to sell and reinvest in ever shorter duration funds. That would not be an attractive option.

Bond trackers are an attractive product for the Vanguard's of this world, and Vanguard uses them in its Target Retirement funds. They are relatively new in the UK, but here is the US fund aimed at pensioners born before 1953:

https://investor.vanguard.com/investmen ... omposition

Vanguard's drawdown fund is roughly 30% equities and 70% bonds. The bonds are roughly 50% total US bond market, 25% short term inflation linked (TIPS) and 25% total international bond market. There is no pretence of liability matching there. It is a keep your fingers crossed strategy. Nonetheless, if you pay an expensive IFA, that is pretty much what you are likely to get for a drawdown portfolio. (To be fair, this strategy makes more sense if you turn out to be heavily over funded for your own needs and are funding a legacy.)

The main issue with a retirement bond ladder is that you do not know your date of death in advance. The solution to that problem is, of course, an annuity. Insurance companies are in business to make money, however, so there will be costs.

[Lootman]

Bond trackers are an attractive product for the Vanguard's of this world, and Vanguard uses them in its Target Retirement funds. They are relatively new in the UK, but here is the US fund aimed at pensioners born before 1953:

https://investor.vanguard.com/investmen ... omposition

Vanguard's drawdown fund is roughly 30% equities and 70% bonds. The bonds are roughly 50% total US bond market, 25% short term inflation linked (TIPS) and 25% total international bond market. There is no pretence of liability matching there. It is a keep your fingers crossed strategy. Nonetheless, if you pay an expensive IFA, that is pretty much what you are likely to get for a drawdown portfolio. (To be fair, this strategy makes more sense if you turn out to be heavily over funded for your own needs and are funding a legacy.)

The main issue with a retirement bond ladder is that you do not know your date of death in advance. The solution to that problem is, of course, an annuity. Insurance companies are in business to make money, however, so there will be costs.

I see nothing wrong with using bond trackers and I have a Vanguard short-term bond tracker fund myself. Plus I dabble at the long end, trading TLT. But in my experience the Vanguard Target series of funds are very conservative. I am not far off that 1953 birthyear and an allocation of 70% to bonds seems excessive to me. My wife, birth year 1964, actually has a Vanguard Target 2030 fund in her occupational pension plan. That is about 60% bonds, again much too high in my view for someone who can expect to live 30 more years. (She has other investments as well, luckily).

So I like the idea of both bond trackers and target funds like Vanguard's, but the latter seem predicated upon very conservative and risk-averse assumptions. I have been retired for over 25 years and I would now be a lot poorer had I used them. And it is not as if that time period was kind for equities. We had the dotcom bust, the global financial crisis and Covid. And yet equities still put me well ahead. Sometimes the risk is in not raking risks.

[Newroad]

Hi GeoffF100.

You are no doubt correct re duration being shortened from the coupon payments.

I implicitly acknowledged this likelihood when I originally framed the question, noting the possibility of accumulating them into the 31st year (2060). However, with low coupon gilts, such as the ones later cited, this would likely only have a marginal effect.

Regards, Newroad

[GeoffF100]

Bond trackers are an attractive product for the Vanguard's of this world, and Vanguard uses them in its Target Retirement funds. They are relatively new in the UK, but here is the US fund aimed at pensioners born before 1953:

https://investor.vanguard.com/investmen ... omposition

Vanguard's drawdown fund is roughly 30% equities and 70% bonds. The bonds are roughly 50% total US bond market, 25% short term inflation linked (TIPS) and 25% total international bond market. There is no pretence of liability matching there. It is a keep your fingers crossed strategy. Nonetheless, if you pay an expensive IFA, that is pretty much what you are likely to get for a drawdown portfolio. (To be fair, this strategy makes more sense if you turn out to be heavily over funded for your own needs and are funding a legacy.)

The main issue with a retirement bond ladder is that you do not know your date of death in advance. The solution to that problem is, of course, an annuity. Insurance companies are in business to make money, however, so there will be costs.

I see nothing wrong with using bond trackers and I have a Vanguard short-term bond tracker fund myself. Plus I dabble at the long end, trading TLT. But in my experience the Vanguard Target series of funds are very conservative. I am not far off that 1953 birthyear and an allocation of 70% to bonds seems excessive to me. My wife, birth year 1964, actually has a Vanguard Target 2030 fund in her occupational pension plan. That is about 60% bonds, again much too high in my view for someone who can expect to live 30 more years. (She has other investments as well, luckily).

So I like the idea of both bond trackers and target funds like Vanguard's, but the latter seem predicated upon very conservative and risk-averse assumptions. I have been retired for over 25 years and I would now be a lot poorer had I used them. And it is not as if that time period was kind for equities. We had the dotcom bust, the global financial crisis and Covid. And yet equities still put me well ahead. Sometimes the risk is in not raking risks.

Vanguard's Target Retirement funds have to be conservative. They have to comply with the FCA's rules. In particular, they must have a risk level that is deemed to be suitable for marketing to everyone. Vanguard wants IFAs to sell these funds. If an IFA fails to recommend investments that are deemed to be suitable, he faces disciplinary action and compensation claims. Nonetheless, these funds are much more risky than an index linked annuity.

I was in cash and bonds until 2003. My equities have done very well since then. There have been far worse 25 year periods for equities. The global equity market is now on a very high valuation, which does not bode well for the next decade or two.