# Fixed Income / Bonds....



## hfp75 (Mar 15, 2018)

So I need to beef up my fixed income. I’m looking at my options for safety and return/yield.

I think that there is another year and maybe more of rising rates. So right away I look at something like VSC, but when you look at the 5 & 10 year charts its really just a slow demise that is going on.

So I thought maybe something with a longer horizon like ZLC or maybe ZAG. It’s a similar story with a downward trend with these rising rates…..

I know that with the yields (a few %) the negative chart is not totally correct.

Then, since I am a bit of a risk taker I was thinking HPR. I could hold here for a year and then move into the Bonds…

I am not a bond GuRu & any feedback is appreciated. I know there are comparable funds and I don’t know all of them. If there are similar funds that perform better or a piece of wisdom that I am missing let me know.

Thx (thats not a ticker)


VSC vs ZLC vs HPR (or alternates)


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## Jimmy (May 19, 2017)

No harm going w a St bond fund like VSC or XSC for a year.

If you are holding for > 10 yrs, you could look at ZAG or XBB. The key measure is yield to maturity - YTM - the return you will get/yr if you hold the fund for its avg maturity. ZAG and HBB are ~ 10 yrs. YTM ~ 2.8%

If you want a little more return you could look at corporate bonds too. XHB or ZMU. both ytm ~ 4%. Maturities are ~ 6 yrs.

HPR & Preferred share ETFs also good. YTM 4.5% and they rise w int rate hikes. Maturities 5 yrs

Some mix would be ok. 1/2 in a bond fund & HPR. Low risk % decent returns


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## lonewolf :) (Sep 13, 2016)

I have not looked into them though there are target date bond funds out there that mature on specific date.


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## james4beach (Nov 15, 2012)

hfp75 said:


> So I need to beef up my fixed income. I’m looking at my options for safety and return/yield.
> 
> I think that there is another year and maybe more of rising rates. So right away I look at something like VSC, but when you look at the 5 & 10 year charts its really just a slow demise that is going on.
> 
> So I thought maybe something with a longer horizon like ZLC or maybe ZAG. It’s a similar story with a downward trend with these rising rates…..


The main question you have to ask yourself is, what is your time horizon for this portfolio. If the money will be invested for at least 10 years, then your fixed income should probably be in ZAG or XBB. If it's a short horizon like 2-3 years, then VSC or XSB.

Over long periods of time, bonds further down the yield curve (ZAG, XBB) are guaranteed to outperform the short end of the curve (VSC). There is virtually no way to successfully time the bond by strategically jumping between short term bonds and regular term bonds.

These bond funds will not necessarily respond as you are anticipating. In the last 3 years for example, the Bank of Canada has increased the overnight interest rate. Many retail investors predicted this and thought the smart way to play this was to invest in short term bonds.

They were wrong. In the last 3 years, XSB returned 0.59% annually. In the same period, XBB returned 1.63% annually, nearly triple the return!

This is a great illustration of how it's very difficult to time and predict the bond market. Investors who were "hiding out" in short term bonds were correct that interest rates were going up, but what they did not foresee is that the yield curve flattened. This is what resulted in the inferior performance of short term bonds.

The point I'm trying to get across ... which I've been arguing for several years now on this message board ... is that it's pretty much impossible to time the bond market. It's not any easier than timing the stock market. On average, regular-long term bonds like XBB/ZAG/VAB will outperform short-term bonds like XSB/VSB.

Simply pick the bond fund that matches your time horizon. If your time horizon is > 10 years, then use ZAG or XBB. If the volatility of these or prospect of rising interest rates really concerns you, then a ladder of 5 year GICs is another good way to go.

Also keep in mind that your forecast could be wrong, and interest rates could go down. Nobody knows.

A final thought:
10 year return of XSB was 2.6% annually
10 year return of XBB was 4.0% annually... significantly higher

During most of these years, many people were certain that short term bonds (XSB) were the best choice because interest rates were so low and were going to go up "any moment now". People have posted this weekly on this message for _years_ now!

My advice is: don't try to time the bond market. Use the couch potato strategy and pick the bond fund that matches your time horizon.


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## hfp75 (Mar 15, 2018)

As I research these ETFs on morning star I dont seem to see the YTM and average maturity ?

For Bonds and other FI is there a better tool than morningstar ?


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## Jimmy (May 19, 2017)

hfp75 said:


> As I research these ETFs on morning star I dont seem to see the YTM and average maturity ?
> 
> For Bonds and other FI is there a better tool than morningstar ?


They are remiss as that is about the only meaningful yield you need to know. You have to go to the provider sites. Ishares show all theirs for all the FI ETFs in a tab . BMO , Horizons you have to look at each individually.


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## hfp75 (Mar 15, 2018)

My current M.O. is :
ZLC and HPR in equal amounts...


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## james4beach (Nov 15, 2012)

hfp75 said:


> My current M.O. is :
> ZLC and HPR in equal amounts...


ZLC is awfully risky. This goes far down the yield curve, around 22 years avg maturity, and it's corporate bonds. If interest rates (bond yields) go up, ZLC would drop by a lot.

It's also vulnerable to deterioration in corporate credit. Look at LQD (an American high grade corp bonds) during 2008. This fell as much as 22% during the credit crisis. Your ZLC is even more vulnerable to price drops due its longer maturity, so in a similar credit crisis, you might expect to see roughly a 30% to 50% drop in the short to medium term. And if defaults are high, you can have actual losses that don't recover.

In summary: you're taking on a huge amount of risk for a relatively small return. With risks of this magnitude you might as well take stock exposure, then at least you get a better risk vs reward tradeoff. IMO you're kind of getting ripped off by accepting such big risks for such small returns.



hfp75 said:


> So I need to beef up my fixed income. I’m looking at my options for safety and return/yield.


Maybe getting back to basics: what's your goal? Fixed income is not the high performance part of a portfolio. It's the safety or anchor, the part that does well during market chaos, recession, depression, and that *does OK even while stocks are tanking*. The two funds you suggested (ZLC and HPR) don't have the safety characteristics that most of us want in our fixed income.

Myself, I like to keep my fixed income in safe things that give me the desirable traits of fixed income. GICs and XBB/VAB. Then I hold my high-risk, high-reward stuff in stock investments.

By separating those out, you will be more clear about where you have safety and where you are getting high returns. There is no such thing as simultaneous safety and high return. Separating the roles makes it easier to calibrate risk vs reward. Want more return? Hold more stocks!

However by conflating the two (ZLC, HPR, junk bonds, etc) you don't know where you stand overall. It's very tough to figure out how risky your overall portfolio is, and this in turn means that your portfolio is probably not in line with your personal comfort level -- a huge problem!!

Look at the best "balanced funds" out there, things like Mawer Balanced. They all hold their fixed income in things like XBB.


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## agent99 (Sep 11, 2013)

If you want to park your money until things stabilize, maybe just buy a GIC. Maybe 3 yr? Personally, I wouldn't touch any bond etfs. Over 3 yrs, they will probably have a negative return.


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## james4beach (Nov 15, 2012)

agent99 said:


> Personally, I wouldn't touch any bond etfs. Over 3 yrs, they will probably have a negative return.


There's no way to know that, even if you accurately predict whether or not the Bank of Canada raises rates (which itself is not certain).

Bond funds can perform well during periods of rate hikes, such as 2004-2007, and 2016-2018 so far.


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## CPA Candidate (Dec 15, 2013)

hfp75 said:


> So I need to beef up my fixed income.


Why?

James, you are always going on about bond returns, what about after-tax real returns? They are negative. Bonds and GICs are where money goes to die.


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## like_to_retire (Oct 9, 2016)

CPA Candidate said:


> Why?
> 
> James, you are always going on about bond returns, what about after-tax real returns? They are negative. Bonds and GICs are where money goes to die.


Buying bonds is about preserving capital and reducing portfolio volatility. Making positive real returns is secondary.

ltr


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## james4beach (Nov 15, 2012)

CPA Candidate said:


> James, you are always going on about bond returns, what about after-tax real returns? They are negative. Bonds and GICs are where money goes to die.


If you read my post #8 above, you'll also see that I'm always going on about risk vs reward characteristics. I agree that returns of fixed income are low.

Fixed income is a different beast than stocks. Lower risks, lower returns. *Low correlation with equities*. It's up to each investor to decide if they want to have any of it, and if these characteristics appeal to them.

My point is that if you're going to have fixed income in your portfolio, you should go for the safe stuff because this actually has the ideal characteristics an investor typically wants from fixed income. If you're going for something like junk bonds or long maturity corporates, then what's the point... it's not going to act like fixed income in your portfolio.


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## agent99 (Sep 11, 2013)

james4beach said:


> There's no way to know that, even if you accurately predict whether or not the Bank of Canada raises rates (which itself is not certain).
> 
> Bond funds can perform well during periods of rate hikes, such as 2004-2007, and 2016-2018 so far.


You are right. There is no way to predict how bond etfs or MFs will perform. So why buy them? GIC you can predict.


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## like_to_retire (Oct 9, 2016)

agent99 said:


> You are right. There is no way to predict how bond etfs or MFs will perform. So why buy them? GIC you can predict.


Have to agree. My entire 50% fixed income allocation is in GIC ladders. 

ltr


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## james4beach (Nov 15, 2012)

GICs are great, I agree they give more predictable returns. My own fixed income allocation is about half bonds, half GICs.

The 5 year GIC ladder is a beautiful thing.


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## OrganicRain (Nov 27, 2016)

ZAG is 40% of my portfolio and will be for the long haul - best bond fund etf in Canada, IMHO.


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## Brin68 (Aug 25, 2016)

Split preferreds and retractable preferreds are also an option. They have fixed maturities so the return can be more predictable. For the most part they pay dividends so they have better after tax returns.


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## MarcoE (May 3, 2018)

I use XSB, XBB, and GICs for my fixed income.


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## agent99 (Sep 11, 2013)

Brin68 said:


> Split preferreds and retractable preferreds are also an option. They have fixed maturities so the return can be more predictable. For the most part they pay dividends so they have better after tax returns.


I use split pfds as well as conv debentures and corporate bonds (all with fixed maturities unless called). However, the original post was about what to do in the short term while interest rates are in flux. Earning 2-3% using GICs might be the safest way of not losing any capital. In fact, GICs are getting to the point where I might start a new GIC ladder. Maybe dump some of the stocks that will get hurt by all this nonsense that is going on south of the border.


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## hfp75 (Mar 15, 2018)

james4beach said:


> If you're going for something like junk bonds or long maturity corporates, then what's the point... it's not going to act like fixed income in your portfolio.


Good point




james4beach said:


> It's very tough to figure out how risky your overall portfolio is, and this in turn means that your portfolio is probably not in line with your personal comfort level -- a huge problem!!


I think that with the mess in the USA (tariffs, ect) markets are vulnerable. So, a light reduction in equities/US eq is in order. Hence my FI drive - just dont want it to backfire if rates rise and it goes down - maybe an inevitability. XBB/ZAG/VAB just might be where my hat should hang - keep it simple & HBB in my non-reg.

Heres my current allocation:
20% Mawer Global Bal
20% Mawer Bal
10% Steadyhand Eq
6% Horizons SP/TSX60
6% Mawer Can Eq
6% Horizons SP500
6% Mawer US Eq
6% PHN Global Eq
6% Mawer Global Eq
2% RBC Emerg Market Eq
2% RBC Global PM

Totals 90%

So I want a FI @10%

I have HISA (@ 2.1%) and a few other pieces outside my QTrade acct.

My Steadhand might also be on the short list but it is heavy Can Eq and I think there is room for growth in Can, so I'm hoping.
My Global Might need adjusting to find products that are lighter on the US Eq.

Yes I am a Mawer fan & Yes I like a split between Index and AM.


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## GreatLaker (Mar 23, 2014)

agent99 said:


> You are right. There is no way to predict how bond etfs or MFs will perform. So why buy them? GIC you can predict.


Liquidity, if you need it.

Imagine a situation for someone (like a retired person) that needs to withdraw funds in a portfolio in a stock market crash, their next GIC does not mature for a while. Bonds, or a bond ETF can provide readily available liquidity, with far less volatility than equities.

Horses for courses.


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## agent99 (Sep 11, 2013)

GreatLaker said:


> Liquidity, if you need it.
> 
> Imagine a situation for someone (like a retired person) that needs to withdraw funds in a portfolio in a stock market crash, their next GIC does not mature for a while. Bonds, or a bond ETF can provide readily available liquidity, with far less volatility than equities.
> 
> Horses for courses.


Read original post. Not talking about having 100% of savings in fixed income.


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## GreatLaker (Mar 23, 2014)

agent99 said:


> Read original post. Not talking about having 100% of savings in fixed income.


OP asked about options for fixed income and more specifically about VSC, ZLC, ZAG and HPR ETFs. You replied:


agent99 said:


> There is no way to predict how bond etfs or MFs will perform. So why buy them? GIC you can predict.


I responded with some differences between bonds and GICs, and reasons why bond ETFs may be preferable. Hopefully the OP gained some insight that will be helpful in making his or her portfolio decisions.


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## james4beach (Nov 15, 2012)

Bonds are good for liquidity. The reason I mix GICs + bonds is to provide additional liquidity. Over the years I've found that liquidity is very useful to me, so I'm willing to forego some of the higher GIC returns to get that liquidity.

And by the way, bond ETF returns can be somewhat predicted, for (1) high grade bonds, (2) over the time horizon of the portfolio average maturity. The return will be approx equal to the yield to maturity at the time of purchase. I showed in another thread that XSB's disappointing returns in the last few years were well within (about +/- 10%) of the CAGR estimated at the time of purchase a few years ago.

Any money you deploy into XBB today will return about 2.5% over the next decade, with price volatility along that route. Not too complicated. The whole point of fixed income is that the returns are quite predictable. This is true whether we're talking about GICs or high grade bond ETFs.

The GICs have price volatility too, the bank just hides the price quote from you


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## GreatLaker (Mar 23, 2014)

james4beach said:


> Bonds are good for liquidity. The reason I mix GICs + bonds is to provide additional liquidity. Over the years I've found that liquidity is very useful to me, so I'm willing to forego some of the higher GIC returns to get that liquidity.


I do something similar. FI split among GIC ladder and bond ETFs. GICs give me absolute certainty of fund availability and should return at least inflation. Bond ETFs give more flexibility in withdrawals, and the possibility of capital gains (although unlikely in today's rate environment). Bond ETFs in RRSP because most of them hold premium bonds and are so inefficient in non-registered accounts.




james4beach said:


> And by the way, bond ETF returns can be somewhat predicted, for (1) high grade bonds, (2) over the time horizon of the portfolio average maturity. The return will be approx equal to the yield to maturity at the time of purchase. I showed in another thread that XSB's disappointing returns in the last few years were well within (about +/- 10%) of the CAGR estimated at the time of purchase a few years ago.
> 
> Any money you deploy into XBB today will return about 2.5% over the next decade, with price volatility along that route. Not too complicated. The whole point of fixed income is that the returns are quite predictable. This is true whether we're talking about GICs or high grade bond ETFs.


I think the important point here is "somewhat predicted". If interest rates went up significantly and stayed there, bond ETF returns would initially drop, then go up higher as older bonds mature or are sold and replaced with newer higher coupon bonds. So in that scenario, long-term bond ETF returns should be higher than predicted by the current YTM. And the opposite would happen when rates fall and stay low.

It is interesting that holders of GIC ladders are happy when interest rates rise, because they know their future GIC purchases will be at higher rates, giving better returns. Holders of bond ETFs live in fear of higher rates because the unit value of the ETF will fall if rates rise. But a bond fund is similar to a GIC ladder with many more rungs, and the fund manager has flexibility to sell bonds before maturity to manage the average duration and average maturity of the fund.


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## agent99 (Sep 11, 2013)

james4beach said:


> Bonds are good for liquidity. The reason I mix GICs + bonds is to provide additional liquidity.


That makes sense IF liquidity in FI is important to the investor. Many of us hold most of our FI in registered accounts where liquidity is not too important, except perhaps when making the mandatory annual RRIF withdrawal. Even then, most of us would also have equity that could be used.

I certainly wouldn't use FI if I needed liquidity unless it was just cash in a savings account.

Right now, I have no GICs, no ETFs but lot's of corporate bonds and debentures in a ladder. Given investment climate, considering getting back into GICs as bonds mature or are called.


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## james4beach (Nov 15, 2012)

GreatLaker said:


> It is interesting that holders of GIC ladders are happy when interest rates rise, because they know their future GIC purchases will be at higher rates, giving better returns. Holders of bond ETFs live in fear of higher rates because the unit value of the ETF will fall if rates rise.


Personally I think this fear is irrational. When rates rise, GIC prices plummet as well, but the only reason people aren't upset by this are that GIC prices are not visible on statements. The banks show a "fake" value based on a simple accrual method (principal grows at the YTM rate).

If you wanted to, you could price a bond portfolio the same way using a simple accrual with each bond's YTM -- just like the GICs are priced. Each bond in the portfolio has a guaranteed return. The perception that the bond portfolio's price is plummeting is due to the method of calculating the price of a liquid security.



> But a bond fund is similar to a GIC ladder with many more rungs


Right. Still amazing to me how we perceive them differently. Even I do!


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## carson (Apr 28, 2011)

hfp75 said:


> I think that with the mess in the USA (tariffs, ect) markets are vulnerable. So, a light reduction in equities/US eq is in order. Hence my FI drive - just dont want it to backfire if rates rise and it goes down - maybe an inevitability. XBB/ZAG/VAB just might be where my hat should hang - keep it simple & HBB in my non-reg.


If you really want some security to offset the current market risk why not just allocate more to a HISA? BOC is expected to raise rates again next month so HISA rates should get a little better.

Tangerine is currently offering 2.75% for the next 6 months plus $25 bonus for opening a new HISA account. Zero risk.


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## carson (Apr 28, 2011)

I wanted to expand upon my post above and compare buying a bond fund like XSB compared to a HISA like the one from tangerine.

$25,000 principle investment, assuming best case scenario and XSB returns 4% per annum for the period. Trading fees of 2x$9.95 for xsb to buy and sell.

Yeild fees	Bonus	Yeild Return	Total Value at 6 months
XSB	0.004	19	0 50 25,031.00
HISA	0.00275	0	25 34.38 25,059.38

If you use Questrade and don't pay fees on ETFs.

Yeild fees	Bonus	Yeild Return	Total Value at 6 months
XSB	0.004	0	0 50 25,050.00
HISA	0.00275	0	25 34.38 25,059.38 

Hisa is still better in the short term and there is zero risk. XSB could perhaps have a negative return in a worst case scenario so what's the point?


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## Beaver101 (Nov 14, 2011)

james4beach said:


> Personally I think this fear is irrational. *When rates rise, GIC prices plummet as well, but the only reason people aren't upset by this are that GIC prices are not visible on statements. The banks show a "fake" value based on a simple accrual method (principal grows at the YTM rate).*


 ... interesting scheme but care to explain?



> If you wanted to, you could price a bond portfolio the same way using a simple accrual with each bond's YTM -- just like the GICs are priced. Each bond in the portfolio has a guaranteed return. *The perception that the bond portfolio's price is plummeting is due to the method of calculating the price of a liquid security.*


 ... but wouldn't this perception based on the ETF's overall unit price plummeting? I wouldn't want to have bought high, only to sell low when I then need those funds.


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## GreatLaker (Mar 23, 2014)

Beaver101 said:


> ... but wouldn't this perception based on the ETF's overall unit price plummeting? I wouldn't want to have bought high, only to sell low when I then need those funds.


That's why one of the fundamental tenets of fixed income investing is to match the duration of your holding with your investing timeline. It helps avoid unanticipated loss if interest rates rise and the drop in the unit price is greater than the interest received.
https://canadiancouchpotato.com/2011/07/07/holding-your-bond-fund-for-the-duration/


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## agent99 (Sep 11, 2013)

carson said:


> Hisa is still better in the short term and there is zero risk. XSB could perhaps have a negative return in a worst case scenario so what's the point?


Exactly. I learned the hard way to avoid bond etfs & MFs

How much potentially greater yield should a bond etf provide over a HISA for short term, or a GIC for longer term, to overcome the inherent risk of the bond etf? 

Besides, I like control over my investments, so if I want a bond ladder, I will chose what goes into it.


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## GreatLaker (Mar 23, 2014)

carson said:


> If you really want some security to offset the current market risk why not just allocate more to a HISA? BOC is expected to raise rates again next month so HISA rates should get a little better.
> 
> Tangerine is currently offering 2.75% for the next 6 months plus $25 bonus for opening a new HISA account. Zero risk.





carson said:


> I wanted to expand upon my post above and compare buying a bond fund like XSB compared to a HISA like the one from tangerine.
> 
> $25,000 principle investment, assuming best case scenario and XSB returns 4% per annum for the period. Trading fees of 2x$9.95 for xsb to buy and sell.
> 
> ...


It seems to me that HISA interest rates are high relative to their risk and liquidity.

Technology has enabled online banks to establish themselves, with lower costs than brick and mortar banks. Now there are many of them, competing for savers' money, therefore they offer good rates for a product that is 100% CDIC guaranteed and totally liquid with no principal volatility.

The question is how long will it last. Banks like Tangering already have lowered rates for existing customers and are trying to attract new deposits with targeted promos, and trying to partition offers away from existing clients.

And short term bond funds still have a lot of assets, possibly from clients that want to keep all their assets at one financial institution, or that need to deposit much more than the $100k CDIC limit.


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## lonewolf :) (Sep 13, 2016)

CPA Candidate said:


> Why?
> 
> James, you are always going on about bond returns, what about after-tax real returns? They are negative. Bonds and GICs are where money goes to die.


 Compared to the stock market almost everyone on the forum would be best of investing in GICs instead


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## james4beach (Nov 15, 2012)

> ... but wouldn't this perception based on the ETF's overall unit price plummeting? I wouldn't want to have bought high, only to sell low when I then need those funds.


Nobody's making you sell the bonds. When you hold a 5 year GIC, do you sell it (at a loss) when you need the funds? No, because you can't sell the GIC. If you _could_ sell that GIC, you'd also get a loss when you did that (if interest rates went up).



Beaver101 said:


> ... interesting scheme but care to explain?


OK let me explain what I mean when I say that GICs are shown at fake prices in your portfolio (whereas bonds are shown at real prices).

Start with the familiar, a 5 year GIC at 3.0%. You can buy it today for $1000 and it will have a final value of $1159 at maturity. The GIC's value between now and 5 years is loosely defined (or not defined), since the GIC cannot be sold. To keep things simple the banks often calculate the price using accrual at the interest rate. So in 1 year, they will show its value as 1000*1.03 = $1030. In 2 years they will show its value as 1000*1.03*1.03 = $1061.

*It's that price calculation that gives all of us the perception that the GIC price is stable*. In reality, we can't realize any of that value. At year 2 is it really worth $1061 ? Not quite... you can't get $1061 cash for it.

Now move on to a 5 year government bond. This will have a lower yield but to avoid complicating things pretend it's also 3.0% _yield to maturity_. The 3.0% YTM means that you can buy the bond for $1000 and that at maturity, its total value (after all coupon payments) will be $1159. This is exactly the same as the GIC so far.

So here you have two equivalent instruments. Both can be bought for $1000, and both will have a total final value of $1159. Both have 3% yield.

But the bond is priced differently, due to accounting regulations and conventions. Because the bond is *liquid*, a brokerage shows it at its current market price. After 1 year, the price may fluctuate (perhaps interest rates went way up) and maybe it now shows as $950 on your broker statement.

*It's that pricing method that creates the perceived loss on your bond*. But did you actually lose money? Of course not... unless you sell it at a loss. If you do nothing, the bond continues on its merry way until it eventually matures at the end at the original $1159.

There is an alternate way to price that same bond, though the brokerage won't do it. At that point in time where it showed at $950, you could have used the alternate method of valuation ... the GIC method ... and its price would have showed as $1030. However you would not be allowed to sell it at that price (same as a GIC).

My point is that the perceived loss of these bonds is due to the accounting and pricing method.

Now the "fund" (a portfolio of these instruments) : If you hold a portfolio of 5 year GICs, then obviously the total price will be the sum of all of those individual prices, each of which is steadily creeping higher. We perceive our GIC portfolios as having stable values that never decline. This is why we all love holding a bunch of GICs long term.

The bond fund/ETF can have an equivalent portfolio of 5 year (average) bonds. Because they are liquid and have prices, we see the value of the entire ETF wiggle around as the price of the individual bonds changes. What's actually happening is that the bond ETF is still steadily gaining value over the long term ... the positive return is guaranteed as long as bond yields are positive ... but the price zig zags with the volatility.

This chart demonstrates it well. Here you're looking at XBB's persistent price gain over the years (the blue line) with the wiggles along the way (red line). You are looking at the guaranteed positive return of bonds, the same phenomenon as the guaranteed positive return of GICs: http://schrts.co/ZqXGKc

If you held GICs instead of a bond fund, you'd see a "smoothed" line (volatility removed artificially) with the same guaranteed increase.

You will undoubtedly notice what looks like the flattening in 2017. What's happening here is that interest rates dropped so low ... to about 1.5% ... that the rate of guaranteed increase slowed down. As this rate of guaranteed increase reduced, the volatility -- the swings in the red price -- started swamping the picture. So now the XBB value is barely increasing over time while the volatility is quite severe, in comparison.

That certainly is the problem with ultra low interest rates. However this rate is starting to increase now and many of us expect it will increase further (this is a good thing).

The blue line in that chart, XBB with the volatility removed, will continue trending higher over the long term. The volatility, the red line, will always be there too.

Some people won't believe me (that bond funds steadily gain over time) and will say that I'm just showing a chart of a bond ETF during falling interest rates, and that the blue line only went up because interest rates were falling. To prove this isn't true, look at the period 1970-1980, when interest rates went up dramatically. I took the following chart from this bogleheads discussion, and it's showing an old bond fund going back to 1971.

Notice how it does what I describe. It steadily gains value over the years -- because bonds provide a guaranteed positive return -- but with price volatility along that path. There is no reason to fear rising interest rates. The tradeoff for the liquidity you get in a bond ETF is that you see real prices, and that means volatility.


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## james4beach (Nov 15, 2012)

Visual explanation, must be logged in to see this:


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## agent99 (Sep 11, 2013)

If you want to be sure that you get your capital back plus interest in some time frame, bond Mutual Funds and ETFS do not offer that. They are influenced by external factors and you could very well lose you money. GICs or bonds with fixed maturity are the safest bet and will likely even have a better yield. And for longer term, a ladder made up of those is a good way to go. This based on hard learned experience, not theory


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## Brin68 (Aug 25, 2016)

The original poster was looking at 1 year investment period. One option for this could be GCS.PR.A, a split preferred. It has an YTM presently of approximately 4% and a maturity date ( redemption date) of 2019-07-31. It is one of the highest rated preferreds with a DBRS rating of Pfd-2H and downside protection of appox. 66% so safety should not be an issue. The after tax return in a non-registered account would be approximately twice that of HISA and GIC's.


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## agent99 (Sep 11, 2013)

Brin68 said:


> The original poster was looking at 1 year investment period. One option for this could be GCS.PR.A, a split preferred. It has an YTM presently of approximately 4% and a maturity date ( redemption date) of 2019-07-31. It is one of the highest rated preferreds with a DBRS rating of Pfd-2H and downside protection of appox. 66% so safety should not be an issue. The after tax return in a non-registered account would be approximately twice that of HISA and GIC's.


I have never looked at that split. It is quite interesting. It invests almost totally in US and foreign companies. Yet the dividends paid qualify in Canada as eligible dividends. 

Canadian Tax Information – Eligible Dividend




> Nature of Global Champions Branded Split Corporation Dividends
> 
> For purposes of the enhanced dividend tax credit rules contained in the Income Tax Act (Canada) and any corresponding provincial and territorial tax legislation, all dividends (and deemed dividends) paid by Global Champions branded split corporations to Canadian residents on our common and preferred shares after December 31, 2005 are designated as “eligible dividends.” Unless stated otherwise, all dividends (and deemed dividends) are designated as “eligible dividends” for the purposes of these rules.
> 
> ...


Have to see if I have some spare cash. Even in registered account, the 4% yield isn't bad.


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## doctrine (Sep 30, 2011)

Fixed income bond funds such as VAB and XBB have been hitting fresh 4 year lows. Relatively though, they have been dropping less than the index, so they have been doing their job as a good portfolio stabilizer. Kind of reminds me of 10 years ago when everything went down together, just that bonds went down not as fast. Even shorter term bond funds are down. Of course, this may mean better returns going forward as yields slowly creep up.


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## AltaRed (Jun 8, 2009)

doctrine said:


> Even shorter term bond funds are down. Of course, this may mean better returns going forward as yields slowly creep up.


Bond market/NAV prices have to go down in the short term in order to provide the instantaneous increase in yield percentage the market demands each day. Absent further yield curve changes up or down, bond market/NAV prices will slowly increase as the lower yield bonds in the portfolio are cycled out. People continue to forget that 'duration' of the bond fund is an important criteria, e.g. XSB will fully recover its price in about 2.5 years AND have a competitive yield as well.

Of course, if bond yields continue to increase, bond ETF market/NAV prices will continue to lag until such time bond market yields cease to climb. Think about it like dragging that toboggan uphill. The climb is a PITA but the ride on the other side is highly rewarding.

Another anecdote: That 5 year GIC bought 2 years ago in a 5 year GIC ladder in the low 2% range looks like a beast today, but it will cycle out at maturity into the prevailing rate of the day. However, that 5 year GIC bought almost 5 years ago is now maturing and will capture current 5 year rates. Eventually interest rates will top out and start to decline again in event of a recession. That 3.5% 5 year GIC bought today will look pretty wonderful if interest rates collapse in 2020 and 5 year rates are 2% and HISA rates are 1.5%.


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## james4beach (Nov 15, 2012)

I think you need to look at total return when viewing the XBB picture. On the 3 year time scale, it's (barely) positive. On the 4 year time scale, positive.

XBB is definitely getting hit over the last couple of years as bond yields creep higher... as would be expected. But again if you look at my visualization from an earlier post, what you're seeing is the volatile zag (ha ha) on the zig-zag along the path of the _guaranteed positive return_.

In fact, compare my bond fund visualization against the actual chart of XBB over 5 years: http://schrts.co/f9Qrbs

Pretty good match, I think. Sure, XBB has been treading water here for the last few years but it's all part of normal (and expected) volatility in bonds. The bond funds _will_ increase in (total return) price -- they have to. And the bonds under the hood today are now generating a higher rate of return.

I'm buying more XBB these days.


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## AltaRed (Jun 8, 2009)

Indeed. This is a heck of a good time to be picking up bond fund units. About a month ago, my ex sold some equity ETF holdings and purchased XSB units.


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## Eder (Feb 16, 2011)

With a CAGR of 4.6% since inception XBB belongs in most portfolio's *(except mine)


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## MarcoE (May 3, 2018)

Now is a good time to buy bond funds. I just purchased a bunch of XBB units yesterday.


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## scorpion_ca (Nov 3, 2014)

Why don't you buy ZAG instead of XBB? The MER is 0.10% (ZAG) compare to 0.19% (XBB).


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## james4beach (Nov 15, 2012)

scorpion_ca said:


> Why don't you buy ZAG instead of XBB? The MER is 0.10% (ZAG) compare to 0.19% (XBB).


The MER of XBB is about the same. The management fee was recently dropped to 0.09% and I think the MERs are within 1 basis point of each other. The iShares page shows the higher (old) MER because this comes from the year end financial assessment, and there hasn't yet been a full calendar year at the new low MER yet.


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## agent99 (Sep 11, 2013)

Total Return of XBB may look OK at over 10 years - perhaps because all securities were hit in 2008. However 5/3/1 year total return performance is poor. Current yield is about 2.9%? This will go up as unit prices continue to drop. James is right - look at Total Return. It doesn't look good.

Seems much better to me to buy GICs or HISAs or other forms of fixed income where you know your capital will be 100% returned. FI should have minimum risk. Bond funds don't provide that.

GIC/Bond funds compared here: https://www.canadianportfoliomanagerblog.com/the-most-boring-battle-ever-bond-etfs-or-gics/


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## OrganicRain (Nov 27, 2016)

scorpion_ca said:


> Why don't you buy ZAG instead of XBB? The MER is 0.10% (ZAG) compare to 0.19% (XBB).


+1


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## Joebaba (Jan 31, 2017)

I'm not trying to sway you to XBB nor ZAG – nor GIC's for that matter.

But make sure you're comparing apples to oranges when it comes to MERs.

As James pointed out above, the MER for XBB shows on the website as 0.19%. But this is based on 2017 numbers when their management fee was 0.30% for almost half the year.
Their management fee for all of 2018 has been 0.09%, so when the audited 2018 numbers come out, the MER for XBB is most likely to be 0.09% or at worst 0.10%.
Same as ZAG.


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## hfp75 (Mar 15, 2018)

Well Ill start by saying thanks for the help with the Bond world - some really good points by everyone - yes I have resurrected an old thread.

I analyzed Bonds and while I was doing that I read lots on the actual Portfolio construction.

I have decided that the money I control at Q-Trade will be 40/20/40 (Eq/Gold/FI), for money I have in Pensions ect where I dont have as many options I will just leave at 60/40 (Eq/FI), overall I think a pretty safe position.

As it relates to this thread, my FI in registered accts is XQB 15% / CLF 5% / HYI 8% - I have been using this since last fall and it seems to work. I have reservations with HYI - due to its risk factors, but right now I am just watching it. For my non-registered acct I am using HBB 20% / CLF 3% / HYI 5% - to reduce the tax side of things. XQB and CLF are not my first choice but I can trade in and out of them for free at Q-Trade so that efficiency swayed me.

I like the XQB/HBB positions and I am struggling with the CLF and the HYI.... If Interest rates are gonna drop I might be better off trading CLF for a longer (10+) year position for a while for a better return/gain. That is trying to time the market and generally that doesn't work well for people.... Also, if HYI stumbles thats no good if there is a recession, despite the 6.5% return it currently has.

Also, if HBB is no longer tax efficient (later this year) I will consider swapping to ZDB (non-reg acct) and still be watchful of CLF and HYI.

BUT, KISS has merit and maybe just XQB and HBB/ZDB is where I should be - and dont look back....


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## MarcoE (May 3, 2018)

I'm considering switching from XBB to ZDB (which is more tax-efficient, I believe), but my account is non-registered, and that would entail capital gains. Any thoughts on balancing tax efficiency of XBB vs. ZDB and capital gains incurred when switching?


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## hfp75 (Mar 15, 2018)

You got any capital losses ? maybe use them to offset ? otherwise just leave it.... add new $ to ZDB and leave your XBB well enough alone.....


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## james4beach (Nov 15, 2012)

MarcoE said:


> I'm considering switching from XBB to ZDB (which is more tax-efficient, I believe), but my account is non-registered, and that would entail capital gains. Any thoughts on balancing tax efficiency of XBB vs. ZDB and capital gains incurred when switching?


That's a tough one. Check the capital gain using the adjusted cost base that you see in the broker's interface. My sense would be, if the capital gain seems relatively small, go for it. Small meaning negligible effect on your taxes.

If you're trying to evaluate the tax trade-off: ZDB distributes approx 25% less interest income per dollar invested and the rest of the gain shows up in the share price. Here is how I might reason through the choice:

Say there's 300K invested in XBB currently (weighted average coupon=3.18%)
The generated interest income is approx the coupon amount = $9,540
Projected ZDB interest income = 0.75 x above = $7,155
So ZDB would reduce taxable interest income by about $2,385 per year

Let's say making the switch would cause you a 5K capital gain.
Included at 1/2 rate that would be equivalent taxable income = $2,500

If that were the case, incurring 2.5K net capital gain in order to get 2.4K interest income reduction per year, I would make the switch since it isn't costing you anything immediately and offers a long term saving. Maybe for this kind of reasoning you could look out something like 3 yrs to evaluate the interest income reduction vs immediate capital gain.


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## robfordlives (Sep 18, 2014)

I'm looking at ZAG to try and see what kind of carnage one could expect with rising rates. Looking at USGG10YR chart we had a bottom in March 2016 and peak in June 2018 before rate started trending down. During that time ZAG dropped about 10%....now what I find curious is that ZAG continues and always has continued to pay a distribution of 4 cents per month (except for a few random periods). Can anyone explain how that is possible during a time of fluctuating rates?


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## james4beach (Nov 15, 2012)

robfordlives said:


> I'm looking at ZAG to try and see what kind of carnage one could expect with rising rates. Looking at USGG10YR chart we had a bottom in March 2016 and peak in June 2018 before rate started trending down. During that time ZAG dropped about 10%....now what I find curious is that ZAG continues and always has continued to pay a distribution of 4 cents per month (except for a few random periods). Can anyone explain how that is possible during a time of fluctuating rates?


Why steady cash distributions? That's because the distributions come from the bond coupon payments. In a bond portfolio, the coupons are constant, until the bond matures and a new one replaces it at some different coupon rate. Over the span of a few years, you will see the coupon payments change gradually, but it has nothing to do with current bond prices. Even if bond prices plummet this year, the monthly distributions will be somewhat constant because the coupons haven't changed.

But the monthly distributions are just current income. To understand the magnitude of the "carnage" with rising rates, you have to look at the total return, which is share price + distributions combined.

In the 20 year history of XBB (which is about the same thing as ZAG), there have been many "drawdowns" of 6% to 8%, and even 14%. Just based on this history I think it's safe to say that a drawdown such as 15% is perfectly possible.

Note that 15% drawdown means something like a share price decline of 18%, because of that 3% cash yield.


*Worst case scenario: evaluation of the carnage*

You start with 100K invested in ZAG. Let's assume the worst case scenario plays out in one calendar year.

In this year, ZAG would pay out 3K in cash. The shares would be worth 82K at year end, *down 18%*. The combined ending value = 82K + 3K = 85K, which is the 15% drawdown according to my model.

During such carnage, I believe you would continue to get a steady monthly distribution as always. But does this really matter? Look at the share price decline. That's going to hurt.

I think that's the worst case scenario. If there was 15% loss in ZAG and XBB, it would be the largest drawdown they ever experienced.


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## james4beach (Nov 15, 2012)

The XBB yield to maturity is now 1.65%. This is a higher yield than every high interest savings account in the country, with the closest being Canadian Tire Bank at 1.55%

I repeat ... even the highest interest savings account doesn't yield as much as XBB.

For someone who doesn't need the money in the next few years, what possible reason could you have for keeping the money as cash?


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## robfordlives (Sep 18, 2014)

As a ZAG holder trying to understand how bad this will get in terms of future price drops. As far as I know duration is about 8 years so if we get a 2% rise in rates I would be looking at a 16% loss (although already down about 8% from 52 week high)? One thing I don't understand....at current price it is the same as November 2011 pricing when rates were higher. How does that make sense? Would that imply that the market things we are headed back to November 2011 Bank of Canada interest rate level?


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## Thal81 (Sep 5, 2017)

So, the way I understand this, and someone correct me if I'm wrong, is that you can't just take the BoC overnight rate and claim that a 2% rise will incur a 16% loss in a bond fund, because bonds of different maturities pay all kinds of interest rates and they won't all move in lockstep with the BoC rate. This makes the prices of bond funds extra hard to predict and make sense of...


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## Covariance (Oct 20, 2020)

@robfordlives The duration statistic I assume you are using (modified duration) takes yield to maturity as an input to estimate price loss/gain. As @Thal81 points out this is not the Bank of Canada rate or any particular bond rate you might see in the media. So it’s not observable.

To get an estimate of how your ETF might change in price with changes in rates you would look at the type and maturity (term) of the bonds it holds. Then focus on potential rate changes on those types of bonds.


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## robfordlives (Sep 18, 2014)

Interestingly enough ZAG is up 3.5% in the last month or so. I continue to scratch my head at the moves of the bond market....if anything both US and Canadian governments getting more aggressive regarding rate hike increases and frequency and inflation status are up. That should mean existing bonds lose value but they have done the opposite


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## james4beach (Nov 15, 2012)

robfordlives said:


> Interestingly enough ZAG is up 3.5% in the last month or so. I continue to scratch my head at the moves of the bond market....if anything both US and Canadian governments getting more aggressive regarding rate hike increases and frequency and inflation status are up. That should mean existing bonds lose value but they have done the opposite


My theory is that the more the central banks speak (both Federal Reserve and BoC) the more it looks like these guys are too scared to raise interest rates. I've been listening to Powell and I don't see any strong commitment to raise rates.

I think earlier this year, bonds fell sharply when everyone thought rates were going much higher. But now it seems increasingly doubtful that rates will ever go up by much. Analysts in the US are guessing that only two or maximum three rate hikes are coming. At a quarter or half point each, that's really not much.

By the way, this is why everyone needs to invest passively in bonds and NOT try timing the market. As I've been saying for years, we really have no idea if interest rates will go up or down, or by how much. The future is uncertain and nobody knows where interest rates will go.


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## Covariance (Oct 20, 2020)

james4beach said:


> My theory is that the more the central banks speak (both Federal Reserve and BoC) the more it looks like these guys are too scared to raise interest rates. I've been listening to Powell and I don't see any strong commitment to raise rates.
> 
> I think earlier this year, bonds fell sharply when everyone thought rates were going much higher. But now it seems increasingly doubtful that rates will ever go up by much. Analysts in the US are guessing that only two or maximum three rate hikes are coming. At a quarter or half point each, that's really not much.
> 
> By the way, this is why everyone needs to invest passively in bonds and NOT try timing the market. As I've been saying for years, we really have no idea if interest rates will go up or down, or by how much. The future is uncertain and nobody knows where interest rates will go.


BOE raised rates last week. BoC and Fed have both said they will start to hike next year after they stop buying bonds. Last week Waller (Fed Board Member) said it's a given that the Fed will increase in March. Long bonds are down because of this tone - market participants expect these Bank officials to hike short term rates and this will bring inflation under control and preserve their value.

Internal consistency implies that if you think they are not going to raise rates then you are counting on inflation dissappearing by itself or COVID puts the economy back into recession again.


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## MrMatt (Dec 21, 2011)

Covariance said:


> Internal consistency implies that if you think they are not going to raise rates then you are counting on inflation dissappearing by itself or COVID puts the economy back into recession again.


I think IF COVID tries to put the economy back into recession, there will be another round of handouts and debt building that will only increase inflation.

Money supply is a proxy for economic value.
You can't continuously increase the money supply faster than you create economic value, without getting inflation.


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## robfordlives (Sep 18, 2014)

Covariance said:


> BOE raised rates last week. BoC and Fed have both said they will start to hike next year after they stop buying bonds. Last week Waller (Fed Board Member) said it's a given that the Fed will increase in March. Long bonds are down because of this tone - market participants expect these Bank officials to hike short term rates and this will bring inflation under control and preserve their value.
> 
> Internal consistency implies that if you think they are not going to raise rates then you are counting on inflation dissappearing by itself or COVID puts the economy back into recession again.


But long bonds are not down, TLT the etf that tracks 20 year treasuries is up 12% from it's 52week low registered in March


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## Covariance (Oct 20, 2020)

robfordlives said:


> But long bonds are not down, TLT the etf that tracks 20 year treasuries is up 12% from it's 52week low registered in March


I was discussing rates and yields. Yield on the medium and long bonds are down, and therefore their price is up.


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## MrMatt (Dec 21, 2011)

Covariance said:


> I was discussing rates and yields. Yield on the medium and long bonds are down, and therefore their price is up.


That should mean.
1. Nowhere else to put the money.
2. As much as they want to, they can't really raise rates all that fast.


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