# Confused about bonds...



## kork (Jun 9, 2012)

So I'm a couch potato investor. I have about 25% of my allocation with Canadian bonds. I'm 36 years old.

And I rebalance each year where the bonds have been pretty stable while my other index investments have grown.

If I understand correctly, bonds are tied to interest rates which have been dropping and dropping. I've also heard people saying that they wouldn't hold bonds right now.

So do I stay the course or are bonds really, not a good part of my couch potato strategy?

I'm not looking for stellar growth with the bonds, but if it's inevitable that they're going to struggle, would I be better with something other than bonds? Cash for example?

Please bear with me as a Google search renders many opinions when searching for info about bonds... I enjoy the discussions here when I can ask questions.


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## mf4361 (Apr 11, 2015)

kork said:


> So I'm a couch potato investor. I have about 25% of my allocation with Canadian bonds. I'm 36 years old.
> 
> And I rebalance each year where the bonds have been pretty stable while my other index investments have grown.
> 
> ...


When interest rate rise, bond price falls, and vice versa.

So if interest rate goes up, your bonds will fall in price and thus might see some crappy return in near term. But as yield rises, the return will eventually come back after a few years.

So if you hold a bond fund to its maturity, you can be sure that you won't lose money because of rate hikes.


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## kork (Jun 9, 2012)

mf4361 said:


> When interest rate rise, bond price falls, and vice versa.
> 
> So if interest rate goes up, your bonds will fall in price and thus might see some crappy return in near term. But as yield rises, the return will eventually come back after a few years.
> 
> So if you hold a bond fund to its maturity, you can be sure that you won't lose money because of rate hikes.


Ah okay, I noticed that with the interest rate drops I tend to see a significant spike in my investments. I suppose that's the bonds. My only struggle is that at the rate they're at, it seems like there's not much room to go down... Just to go up at some point.

But if there's a short term negative effect that would be offset by a longer term benefit then I'm good with it.

If I recall, in the 80's my grandfather bought a bunch of bonds that earned him about 12% a year. Everyone thought he was crazy since others were earning more in the stock market, but he bought (what I believe were long term bonds) and makd a "wealthy barber" annual return.


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## CPA Candidate (Dec 15, 2013)

I'm 36 and own a trivial amount of bonds (about 2% of portfolio). Your allocation is quite conservative.


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## HaroldCrump (Jun 10, 2009)

I am in the same age cohort, but have a much smaller allocation to bonds.

In general, the % allocation to bonds should reflect not just your age and risk tolerance, but also the presence (or absence) of any deferred fixed-income style products, such as defined benefit pension, deferred annuities, etc.
25% may be exactly right, too much, or too little depending on those factors.


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## kork (Jun 9, 2012)

With the Couch Potato, the idea is that as you get closer to retirement, there's a higher allocation to Bonds as I understand it. I've often been curious if with 20+ years I should just rebalance with minimal allocation to the bonds and diversification across the index markets.


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## lonewolf (Jun 12, 2012)

kork said:


> With the Couch Potato, the idea is that as you get closer to retirement, there's a higher allocation to Bonds as I understand it. I've often been curious if with 20+ years I should just rebalance with minimal allocation to the bonds and diversification across the index markets.


 The majority is going to get this one wrong. The BS rating agencies think some government bonds are safe. I think the 09 lows in stocks will be taken out in the next few years but I would be in stocks before I would be in bonds. Bonds are not safe.


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## Belguy (May 24, 2010)

I am 72. Should I have a 70 per cent allocation to bonds or other fixed income investments?

Also, from my long experience in investing, it bothers me when I hear someone say that they are carrying a portfolio that is virtually 100 per cent invested in equities. I hope that you will be able to sleep well when, not if, the next stock market crash comes.

Bonds play an important part in a portfolio as they provide ballast when, not if, the seas get rough. They tend to even out the peaks and valleys in a portfolio and provide stability. However, if you chose to ignore that fact, then LOL. Some folks don't believe in buying insurance either.

As the experts say, your target asset allocation is the single most important decision that you can make even though most investors spend much more time on contemplating which individual investments to hold in their portfolios.

---You'd best listen to your elders!


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## rl1983 (Jun 17, 2015)

I'm 31 and have 30% in Bonds. I'm going by Swedroe's advice where every 5 years, you move up 5 % ( or something to that nature ). 

The plan is, if the market dips, to sells the bonds and double-down on a ripe-for-the-picking market, then rebuild the bonds back to their proper allocation ( 30+ % ) Call it a built in savings plan, in the past I've always missed out on market dips due to lack of available cash.


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## mf4361 (Apr 11, 2015)

My opinion is bond/equity ratio should not be solely a function of age, but more importantly time horizon of investment, your tolerance of risks and purpose of investment.

I have 40% in bonds/GIC (exclude everyday cash and emergency fund) despite I am 25. The reason is I am saving to buy a house, not only saving for retirement. Thus I will be tapping into it within 5-10 years, not 40 years from now. Plus I am a not as risk-tolerate than most 90s kids.

General idea is the more time to invest, the more equity you should take. 

@Belguy, assuming you are retired, and already tapping into the portfolio, you shouldn't take any equity. Unless you see those as your play money and will not feel a thing if you lose it all in one night. (Might as well go to Vegas I suppose)

But that just my opinion as a pessimist. You are free to do whatever you like with your money.


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## CalgaryPotato (Mar 7, 2015)

The big thing with bonds is long term it's a counter balance to stocks. When stocks go do, bonds usually go up. The difference to your overall portfolio when you have even a 25% bond weighting is huge in a bear market.

There are a lot of different opinions on whether it's better to own bonds right now or a GIC. The idea being that the rates are low, and are more likely to rise so that will devalue the bonds. That being said, bonds funds always replenish. So even though the bonds in your fund will be worth less, it'll start churning through and buying bonds at the higher rates as the interest goes up, as opposed to the GIC where you are locked into the rate.

Plus GIC's do not go up when stocks go down, and are illiquid for rebalancing purposes. 

If you want to go less fixed, it depends on your risk level. 36 is young, but it depends on when you plan to retire too... if you are aiming for freedom 55, it's 19 years, which is long, but for me, that isn't 0 fixed income sort of long term.


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## agent99 (Sep 11, 2013)

CalgaryPotato said:


> The big thing with bonds is long term it's a counter balance to stocks. When stocks go do, bonds usually go up. The difference to your overall portfolio when you have even a 25% bond weighting is huge in a bear market.
> 
> There are a lot of different opinions on whether it's better to own bonds right now or a GIC. The idea being that the rates are low, and are more likely to rise so that will devalue the bonds. That being said, bonds funds always replenish. So even though the bonds in your fund will be worth less, it'll start churning through and buying bonds at the higher rates as the interest goes up, as opposed to the GIC where you are locked into the rate.
> 
> ...


I don't think you should compare a bond fund with GICs. GICs are usually (or should be) bought individually in a ladder. So an investor would hold 1,2,3,4&5 yr GICs.
Each year one matures and you buy a new one at the new interest rate.

You can do the same thing by buying individual bonds in a ladder with annual maturity dates. Again, you replace maturing bonds with new ones at the new rate.

In the case of a bond fund, you have no control. The fund value will drop as rates increase. But if fund unit holders panic and sell, the units can drop even more. Fund managers may have to sell off some of their holdings at a loss in order to keep the fund afloat. I learned the hard way to avoid bond funds and etfs.

More here.


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## kork (Jun 9, 2012)

rl1983 said:


> I'm 31 and have 30% in Bonds. I'm going by Swedroe's advice where every 5 years, you move up 5 % ( or something to that nature ).
> 
> The plan is, if the market dips, to sells the bonds and double-down on a ripe-for-the-picking market, then rebuild the bonds back to their proper allocation ( 30+ % ) Call it a built in savings plan, in the past I've always missed out on market dips due to lack of available cash.


That's really interesting. While I subscribe to the Couch Potato method, I can't help but think there "might" be a way to divert/modify slightly to take advantage of markets when they get bashed.

Having maxed out my RRSP's and TFSA's, there's not much "cash" I could throw at my registered investments without hitting my max in the opportunistic event of a market downturn. So if/when the markets tank like they seem to do every 7-10 years, I could take the bonds which have remained steady through the drop and then allocate them to the other index funds and slowly, over the next 5 years rebuild the bonds? But at that point during growth, wouldn't it be better to put them towards the "hopefully" quickly recovering bruised and bashed indexes funds?

Following the couch potato strategy, If I'm diligent with rebalancing yearly, isn't that essentially what's happening? In the event of a crash, Bonds could effectively represent 50% of my overall mix from the 25% it is now due to the other funds dropping so hard. The rebalance would effectively take a bunch of the steady bond allocation and push them into the index funds, no?


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## Strength (Jul 12, 2015)

I have 25% bonds in my couch potato portfolio and I still can't decide whether I should just remove it. I find it goes nowhere.

Does everyone have bonds in their Couch Potato Portfolio?


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## CalgaryPotato (Mar 7, 2015)

Strength said:


> I have 25% bonds in my couch potato portfolio and I still can't decide whether I should just remove it. I find it goes nowhere.


Bond funds have returned about 4% on average over the last 5 years... so I'm not sure what your expectations are?


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## Robillard (Apr 11, 2009)

The main reason to hold bonds, regardless of proportion of a portfolio, is diversification. The returns on bonds and equities, are generally not very highly correlated (except in certain exceptions, such as a market meltdown like in 2009). Equity returns are generally driven by the market risk premium. The returns on bonds are generally driven by changes in the level of interest rates and the shape of the yield curve, and not the market risk premium. So bonds should be part of any diversified portfolio. In addition, the returns on bonds tend to exhibit a much lower level of variance (and normally a lower expected return) than equities. 

If you are expecting interest rates to increase in the near term and expect a poor return, this is good argument for holding shorter duration bonds, not necessarily cutting bonds out of the portfolio entirely.

GICs may be a substitute for bonds up to 5 years to maturity. I think they may be treated like deposits, and benefit from deposit insurance. However, they are less marketable than bonds. Also, you are exposed to the credit risk of the bank (or CDIC if so-covered). You might want exposure to credits outside of the banks though. If you don't have much to invest, getting bond exposure through a fixed income fund (or ETF) probably makes more sense than holding individual bonds because of the benefit of diversification across bond durations and issuers.


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## GPM (Jan 23, 2015)

I'm a big believer in the balanced portfolio - I run a traditional 40-50%. It gets me what I need. Have since my 30's. However, I hear both sides of the arguments of individual bonds or funds. Bogle likes funds for better diversification, other like individual because in a downturn you can hold to maturity. I was going GIC's until I read about the liquidity for rebalancing if stocks go down. 

Just recently I noticed big pensions dropping from 40 to 30%. I know you are supposed to tune out the noise and I'm pretty impenetrable that way, but I wonder if the 100% equity fellows are on to something right now. It's not just the pension funds, they need the returns to prove themselves but Fank Cunningham. He's a big bond guy in Canada and I accidentally read an article where he basically said someone left the barn door open on bonds years ago. I think he's using gic's for short term, but can't remember. Definitely not bullish on bonds. Curious about people's opinions on this. (I'm holding steady)


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## james4beach (Nov 15, 2012)

I'm also a fan of the balanced portfolio and it's what I recommended to my mom. Though personally I think the fixed income side should be GICs and shorter maturity bonds, but not bonds of the usual 10+ year maturity like you'd find in a standard bond fund.

The shift you're seeing towards higher equity %s is due to desperation of investors in a zero interest rate environment. Both for pension funds and regular investors, this just comes down to the math. Historically you would have been able to have a 50/50 portfolio that achieved a rather steady 6% long term return, for example.

However as interest rates dropped, the equation changed dramatically. Pension funds and individual investors can no longer achieve that 6% goal, if they're 50/50 in equities. But pension funds already made expectations about future returns, and retirees need the money to live off.

Everyone's reaction was to raise the equity % allocation. They do this to once again hit that 6% target (number is kind of made up, but that's the ballpark). By boosting the weight of the high-risk, high-return portion, people think they can still get the 6% return they desperately need. There's more risk, of course. You're more exposed to market volatility, and if the stock market has a prolonged bear market, then you're absolutely screwed. Pension funds will collapse and retirees will be devastated.

I think it's a strategic mistake to just boost equity % allocation in response to low interest rates. It's like saying "yeah I see the reality that returns are now lower, but I'm going to stubbornly insist on the same 6% return".

In the big picture, I think the reaction of the investment world is a kind of denial, and refusal to accept a reality. The reality is that the market, at current interest rates, only offers 4% to 5% return going forward in a balanced portfolio. I think it's healthy to accept that reality and plan accordingly. That is not what pension funds are doing... instead they're taking on more risk, and insisting on getting that 6% they initially planned for.


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## james4beach (Nov 15, 2012)

My own fixed income allocation is a combination of GIC ladder (I always buy 5 year GICs), as well as a portfolio of individually held medium maturity bonds.

Assuming these are long term holdings and not things you actively trade, I think GICs are more attractive right now. Through brokerages you can get big bank 5 year GICs @ 1.95% yield, whereas XBB yield-to-maturity is 1.85%.

Thus the GICs give you a _higher_ yield with a _lower_ term, as well as CDIC insurance. What you give up is liquidity.


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## My Own Advisor (Sep 24, 2012)

I've always liked Andrew Hallam's take on bonds "they are parachutes for your portfolio". This implies if you need a chute to handle and withstand market volatility, including a bear market that could last years, then you need bonds. I would think a balanced portfolio of stocks and bonds would suit most investors since they cannot stomach 10%, 20% or 30% portfolio value losses if they held more stocks. I would think loss aversion is a more important factor than the upside that bonds can bring. 

Bonds are not risky investments by design so you get no reward (little return) for taking on little investment risk. The opportunity for return and taking on risk are correlated.

The reality is if you want more return, you're gonna have to take on more (equity) risk.


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## Strength (Jul 12, 2015)

Aren't you losing money if you're buying a Bonds Index right now? I just don't know what to do with my eSeries Bonds Index since I don't want to have it for no reason.

The intrest rate is at an all time low and it can only go up from here which would depreciate the value of the bonds index?

Does anyone have any experience with the Canadian Bond Index - eSeries from TD? Is it long-term bonds or short-term bonds?


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## wendi1 (Oct 2, 2013)

Myself, I prefer to buy bonds directly, rather than bond funds (despite etfs being able to negotiate a better price). And if I can get a 5 yr CDIC-insured GIC at a better rate than a government/crown corp/hydro bond, I go there instead.

However, I thought the interest rates had bottomed out months ago, and was wrong.


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## GreatLaker (Mar 23, 2014)

Strength said:


> Aren't you losing money if you're buying a Bonds Index right now?
> The intrest rate is at an all time low and it can only go up from here which would depreciate the value of the bonds index?


Bond fund returns consist of capital gains (or losses) plus interest distributions. If interest rates go up, the unit value may drop, but it would be offset by increased interest payments over time, so it is unusual for bond funds to lose money, especially for more than a year. See this article for more info:
http://canadiancouchpotato.com/2011/07/07/holding-your-bond-fund-for-the-duration/



Strength said:


> Does anyone have any experience with the Canadian Bond Index - eSeries from TD? Is it long-term bonds or short-term bonds?


https://research.tdwaterhouse.ca/research/public/MutualFundsProfile/Summary/ca/TDB909
It tracks the FTSE TMX Canada Universe Bond Index (formerly known as the DEX Universe Bond Index and the Scotia Capital Universe bond Index). It holds a representative sample of Canadian government and corporate bonds over 1 year maturity, and has an average maturity of 10.5 years, and average duration of 7.5 years. If held for 7.5 years or more, you should not lose money on it, as per the first link above.

It will be very similar to iShares XBB as they track the same index: http://www.blackrock.com/ca/individual/en/products/239493/?referrer=tickerSearch


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## Moneytoo (Mar 26, 2014)

Might be interesting:

*Yield hunters will be drawn to Canadian municipal-debt ETF*

_Investors looking for higher yields in their bond portfolio can look to a new exchange-traded fund that focuses entirely on the Canadian municipal bond market.

Horizons ETFs Management (Canada) Inc. adds to its fund lineup with the launch of Horizons Active Cdn Municipal Bond ETF, which will begin trading on the Toronto Stock Exchange on Thursday.

With a management fee of 0.35 per cent, the actively managed ETF provides investors the opportunity to tap into the municipal bond market by primarily investing in a portfolio of Canadian municipal bonds, such as those of the City of Sherbrooke._


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## james4beach (Nov 15, 2012)

Great, more yield-chasing.

I have trouble believing that a municipal bond is going to have a better risk-adjusted yield than a CDIC insured GIC. Post some numbers of municipal bond yields and maturities and let's compare


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## Moneytoo (Mar 26, 2014)

"The City of Sherbrooke is trading at 2.26 per cent while a five-year bank bond is around 1.80 per cent," Mr. Bourdon said.


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## HaroldCrump (Jun 10, 2009)

Some municipalities have AAA credit rating by S&P.
I believe Burlington in southern Ontario is among them.


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## james4beach (Nov 15, 2012)

Moneytoo said:


> "The City of Sherbrooke is trading at 2.26 per cent while a five-year bank bond is around 1.80 per cent," Mr. Bourdon said.


You need to know when that bond would mature, plus its credit rating(s). Fees will also reduce the yield.


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## OnlyMyOpinion (Sep 1, 2013)

Currently, the best rate I see on Webbroker in a 5 year corp bond is - Reg Mun of York 6/30/2020, ask yield is 1.34549, no rating listed. With a large purchase that rate might move up a bit. Same source shows Bank of Nova Scotia with a 5 yr annual compound GIC at 1.95%, or 2.1% from HSBC Trust Co.


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## james4beach (Nov 15, 2012)

If we can't get ready quotes on these, it also shows these municipals are illiquid or thinly traded. I don't like investing in things where I can't get independent quotes.

Let's say a muni (like York) is 1.35% yield for 5 year maturity. That's far, far inferior to the 5 year GIC. Higher yield and federal deposit insurance.

Why would I pass up the GIC and instead go for something with lower yield that has no protection against default?


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