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I wonder what people think of including investment grade corporate bonds in a diversified invesment portfolio.
The reason I ask is I recently heard some fairly "sophisticated" investment professionals make the case AGAINST holding ANY corporate bonds at all. The argument is that U.S. Treasuries give you all diversification you need on the fixed-income side.
One of these market experts is David Swensen (head of Yale's investment fund). He generally argues for holding a mix of stocks, bonds, and real estate but he is strongly against holding CORP. BONDS.
The essential arguments he makes AGAINST holding CORP. BONDS are as follows:
1. Lack of liquidity (esp. compared to Treasuries & Equities).
2. Callability...when interest rates decline companies call existing bonds with higher rates. So bondholders face a, "heads you win, tails I lose." situation.
3. Limited Upside, Unlimited Downside. Best bet is for interest payments and payment of principal. No equity like returns. Worst outcome is default without recovery.
4. Lack of Alignment of Bond Investor Interests with Managment. Equity investors enjoy a better alignment of interestets with management who do want to boost the stock price but often want to REDUCE debt and in distressed situations give haircuts to debt holders.
So his bottom line is why take these risks when you can hold U.S. Treasuries and get a better RISK-ADJUSTED return.
The tax consequences and risk premium determine the relative difference between "investment grade" corp bonds and govt issued debt. Last time I checked there a billions of dollars worth of both traded every day...
corporate bonds respond more like stocks. usually whats good for stocks is good for corporate bonds because they are tied heavily to credit worthiness they trade opposite treasuries lately. 2008 when stocks tumbled,corporate bonds fell about 8% or so. long term treasuries soared 30%....
right now i have quite a bit of both fidelity short term bond fund and fidelity investment grade bond fund.
The tax consequences and risk premium determine the relative difference between "investment grade" corp bonds and govt issued debt. Last time I checked there a billions of dollars worth of both traded every day...
His analysis does factor in tax consequences and risk premium and he still concludes whatever premium is received by investors is not enough to justify the increased risk of corporates over treasures.
I think you last point is a good one. While U.S. Treasuries is one of the most liquid and deep markets, there are still plenty of trades of high grade corporates. So the difference is relative......
I've owned the Vanguard short term corporate bond fund VFSTX for a long time (at least 10 years). It has done my portfolio well. Relative to similar term treasuries, it's a little more risky, but not by much. Over the last decade, the Vanguard fund has gained an annualized 4.96%/year. Its only losing year the past decade was in 2008 during which it lost 4.7%.
There is a role for corporates if you want a little more yield above what treasuries offer. Half of my emergency fund is parked in VFSTX (yielding 3.5%), and the other half is in cash (effectively yielding 0% - ouch!).
As long as you stick with the short duration high grade bonds to limit interest rate and credit risks, you should be okay. But I agree with Swensen that treasuries should be the foundation of the fixed income component of your portfolio.
I wonder what people think of including investment grade corporate bonds in a diversified invesment portfolio.
The reason I ask is I recently heard some fairly "sophisticated" investment professionals make the case AGAINST holding ANY corporate bonds at all. The argument is that U.S. Treasuries give you all diversification you need on the fixed-income side.
One of these market experts is David Swensen (head of Yale's investment fund). He generally argues for holding a mix of stocks, bonds, and real estate but he is strongly against holding CORP. BONDS.
The essential arguments he makes AGAINST holding CORP. BONDS are as follows:
1. Lack of liquidity (esp. compared to Treasuries & Equities).
2. Callability...when interest rates decline companies call existing bonds with higher rates. So bondholders face a, "heads you win, tails I lose." situation.
3. Limited Upside, Unlimited Downside. Best bet is for interest payments and payment of principal. No equity like returns. Worst outcome is default without recovery.
4. Lack of Alignment of Bond Investor Interests with Managment. Equity investors enjoy a better alignment of interestets with management who do want to boost the stock price but often want to REDUCE debt and in distressed situations give haircuts to debt holders.
So his bottom line is why take these risks when you can hold U.S. Treasuries and get a better RISK-ADJUSTED return.
Anyone disagree or agree? Why or why not?
Disagree,corporate bonds were a steal in 2008-early 2009,selling at steep discounts to their real value.Also,many of them have call protection provisions.A Goldman Sachs 6.5% I purchased for my wifes account was selling at 72 (silly rabbits),its value is now 98.5,and a 6.5% sweetener the whole way for 10 more years.If you had the sack to buy Ford bonds during the same period,you could have picked one up for 38 cents on the dollar,if they had pieced the company out you still would have gotten paid!!! Still kicking myself that I took a "no thank you" portion of that one.Oh well !!!
U.S. Treasuries at their current generational low yields/high prices will be the next asset bubble to pop.In investing NEVER be where everyone else is,because when the boat tips over,they will be the first ones to get wet.The countries who are creditor nations stopped buying them about a year ago. T Bill and Notes good performance recently is only a nay vote on the stock market,not a nod to the fiscal responsibility of the U.S. government.
Disagree,corporate bonds were a steal in 2008-early 2009,selling at steep discounts to their real value.Also,many of them have call protection provisions.A Goldman Sachs 6.5% I purchased for my wifes account was selling at 72 (silly rabbits),its value is now 98.5,and a 6.5% sweetener the whole way for 10 more years.If you had the sack to buy Ford bonds during the same period,you could have picked one up for 38 cents on the dollar,if they had pieced the company out you still would have gotten paid!!! Still kicking myself that I took a "no thank you" portion of that one.Oh well !!!
they were great if you were buying them, not so good if you already owned them. if you thought you bought bonds for protection when stocks fell you were wrong. only treasuries soared.
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Check your definations...
