Showing posts with label 80% stocks 20% bond. Show all posts
Showing posts with label 80% stocks 20% bond. Show all posts

Tuesday 14 March 2023

What does the bond market turmoil mean for investors?

 

What does the bond market turmoil mean for investors?

US Treasuries have suffered the worst start since 1788 after falling by 9.8 per cent this year, triggering experts to question the 60/40 portfolio strategy


The bond market has suffered a record $10 trillion sell-off this year. AP

Investors fretting over this year’s $13 trillion global stock market crash may have overlooked similar carnage in a market that is actually more important for the global economy.

The bond market has also suffered a record $10tn sell-off and this could hit investors just as hard because a strange thing is happening.

Both shares and bonds are crashing at the same time. That is something financial experts say isn’t supposed to happen.

But in 2022, it is. Which means there is no hiding place for investors in this troubled year. There may also be an opportunity, if you are sharp.

Retail investors may pay little attention to the bond market but institutions and governments have been known to obsess over it.

For them, the bond market is the big one. It is about triple the size of the global stock market and plays an essential role in keeping economic activity ticking. At the end of last year, the bond market was worth about $120tn, against $41.8tn for global shares.

If the bond market gets bumpy, everybody is in for a rough ride.

Governments issue bonds to raise money for their spending while companies use them to generate the funds they need to grow. Both promise to pay investors a fixed rate of interest over a preset term, with a guarantee to return their original capital afterwards.

At maturity, the issuing government or company must repay the debt. If it cannot, there is trouble.

Bonds are traded by investors, which means their value can constantly change, depending on factors such as inflation, interest rates and demand. As is the case with shares, bond prices can rise and fall. Just not as much. Usually.

Ordinary investors rarely buy individual bonds but invest through a fund holding a spread of government or corporate bonds.

Bonds offer them a fixed rate of interest plus capital growth if prices rise, with fewer of the ups and downs you find with shares.

The two are supposed to be non-correlating assets. So, when shares fall, bonds are supposed to mitigate losses by standing firm.

The one thing they are not supposed to do is crash simultaneously. Yet, that is what is happening right now.

In doing so, they have destroyed a golden rule of portfolio planning.

For decades, financial planners said the safest way to generate steady, strong long-term returns is to invest 60 per cent of your money in shares and 40 per cent in bonds.

The classic 60/40 portfolio strategy has generated an impressive average return of 11.1 per cent a year over the past decade.

You can even buy exchange-traded funds (ETFs) that automatically deliver this, such as the BlackRock 60/40 Target Allocation Fund or the Vanguard 60% Stock/40% Bond Portfolio.

The writing was on the wall for the 60/40 strategy last year, as US large-cap stocks hit record-high valuations, while US Treasury government bond yields neared record lows.

“For all intents and purposes, we think investors have many reasons to be concerned that the 60/40 might be dead,” Nick Cunningham, vice president of strategic advisory solutions at Goldman Sachs Asset Management, said last October.

This will hit investors who had even never heard of the 60/40 rule because “we see shades of the classic 60/40 present in many portfolios due to an over-concentration in the most familiar asset classes", Mr Cunningham added.

As this warning proves prescient, it may be worth looking at your portfolio to see how exposed you are to this double jeopardy.

This has been a challenging year across the board, says Jason Hollands, managing director of investment platform Bestinvest.

“2022 has seen one of the worst starts to a calendar year for core US assets on record,” he says.

US Treasuries have suffered the worst start since 1788, according to Deutsche Bank, falling by 9.8 per cent. That isn’t supposed to happen to the bond market.

“At the same time, the S&P 500 Index of US shares has fallen 20.38 per cent, the worst first half for US equities since the Great Depression in 1932,” Mr Hollands says.

This is happening because central banks, led by the US Federal Reserve, are throwing monetary policy into a sharp reverse.

After decades of slashing interest rates and pumping out stimulus, they are tightening as fast as they dare to curb inflation.

“Central bankers have now yanked away the key supports for equity and bond markets that turbocharged them in 2020 and 2021,” Mr Hollands says.

Rising interest rates are bad news for shares because higher borrowing costs squeeze both businesses and consumers, hitting profits.

Bonds suffer because they pay a fixed rate of interest, which looks a lot less attractive when rates are rising and investors can earn higher yields elsewhere.

The stock and bond sell-off isn’t over yet despite signs of a recovery in recent days, says Fawad Razaqzada, market analyst at City Index and Forex.com.

Optimists convinced themselves that the Fed would curb rate increases for fear of tipping the US into recession, but this is a misreading.

The Fed is in a hawkish mood. I think the start of another equity and bond market sell-off is nigh,” Mr Razaqzada says.

It is not all bad news, though.

Bonds do this odd thing that sometimes confuses private investors. When bond prices fall, yields rise.

While the bond price crash is bad news for existing holders, new bond investors are earning a higher rate of income. Yields on 10-year Treasuries have almost doubled from 1.63 per cent to 3.06 per cent this year.

Stock and bond market crashes have one thing in common. Both can throw up opportunities for forward-looking investors.

The Fed will continue to raise rates this year but it also wants room to cut when the US economy slips into recession as a result, probably in 2023, says Lisa Emsbo-Mattingly, managing director of asset allocation research at Fidelity Investments.

“If inflation comes down, real rates, which are yields minus the rate of inflation, could rise further into positive territory after being below zero for the past two years,” she says.

This would allow government bonds to carry out their old job of providing a steady level of income for lower-risk savers and pensioners. Bonds could then start making a meaningful contribution to that balanced 60/40 portfolio split again.

Bonds are cheaper than they were after this year’s dip and are starting to look better value for money.

It could soon be time to start buying bonds again, ideally before the Fed starts cutting rates next year to reverse the recession, at which point bond yields will fall again, Ms Emsbo-Mattingly says.

“But the window of opportunity for yield-seekers may be brief,” she says.

There are hundreds of bond ETFs to choose from, including iShares Core 1-5 Year USD Bond ETF, iShares Global Government Bond UCITS ETF (IGLO) or db x-trackers II Global Government Bond UCITS ETF.

Accurately timing bond fund purchases is no easier than timing the stock market, yet recent volatility is throwing up an opportunity.

It may even make bonds exciting.

Updated: July 05, 2022, 1:00 PM


https://www.thenationalnews.com/business/money/2022/07/05/what-does-the-bond-market-turmoil-mean-for-investors/?utm_source=paid+google&utm_medium=paidsearch&utm_campaign=us+uk+always+on&utm_term=&gclid=Cj0KCQjwtsCgBhDEARIsAE7RYh1ru7FE_OrhxgydUWGygjSPzvR2gW8TwdoBc7cuP1pnWRt4dXjGcFYaAslIEALw_wcB

Friday 2 July 2010

Do not scoff at an Overall Rate of Return of 8% p.a. of your TOTAL portfolio

Asset allocation is the next most important factor, after asset selection, in determining the overall rate of return of your total portfolio.


Here are some illustrations to bring home this important fact.

Asset Allocation and Overall Rate of Portfolio Return (Equity Growth Rate  of    8%)

Asset Allocation and Overall Rate of Portfolio Return (Equity Growth Rate of 10%)

Asset Allocation and Overall Rate of Portfolio Return (Equity Growth Rate of 15%)

Asset Allocation and Overall Rate of Portfolio Return (Equity Growth Rate of  20%)
http://spreadsheets.google.com/ccc?key=0AuRRzs61sKqRdE9yeVRvSzRrMzM5djc0MHA0cERLbXc&hl=en

Asset Allocation and Overall Rate of Portfolio Return  (Equity  Growth  Rate of    -10%)


It is common enough to hear of 'investors' and 'speculators' achieving high rate of return on their equity/equities.  An equity portion may give a return of >15% or >50% p.a., but this may only translate into a small overall return to the total portfolio if the percentage of equity is a small portion of the total portfolio.

Therefore, do not scoff at the investor who is able to grow his/her total portfolio at an overall rate of return of 8% or more p.a.  It is no mean feat indeed.  Just study the spreadsheets to gauge what is required to achieve this.

On occasions, there are those who are 100% in cash.  This doesn't make sense, as the risk of being in 100% cash compared to being 80% cash: 20% equity is almost the same and moreover, the later has a greater probability of a higher return compared to the former.


Sunday 18 October 2009

Take a little more risk to boost your returns

From The Sunday Times October 18, 2009

Take a little more risk to boost your returns

Fund managers are targeting those who live off the income from savings and investments with a raft of fund launches, some of which offer yields of up to 7%. However, advisers urged anyone moving from the safety of a deposit account to remember that their capital could be at risk — as a general rule, the higher the income, the greater the risk of losses.


http://www.timesonline.co.uk/tol/money/investment/article6878902.ece

Monday 8 December 2008

50%-50% versus 80%-20% portfolio blend of stocks and bonds

It's all in the mix
How to invest well and sleep better, in good markets or bad

By Jonathan Burton, MarketWatch
Last update: 6:37 p.m. EST Nov. 18, 2008
Comments: 58

SAN FRANCISCO (MarketWatch) -- In this devastated market, "risk tolerance" is an oxymoron. Those little tests the online investing sites give you to assess how much risk you can handle in your investments don't do justice to the kind of crash we're living through.

Most of us can't stomach 40% free falls in our fortunes and we certainly can't -- or don't want to -- suffer a shellacking like the one we had in October and then watch what's left trickle away.


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You don't have to.

This may be too late for many investors who have already seen their stock-heavy nest eggs scrambled, but some research and simple number-crunching indicates you can keep less money invested in stocks than conventional wisdom would have you believe -- without giving up your retirement goals and with a lot less risk.

Indeed, a portfolio that mixes 50% stocks and 50% super-safe long-term Treasury bonds has performed almost as well over the past two decades as a portfolio that carries an 80%-20% blend of stocks and bonds. And if you're the guy holding the first portfolio, you're probably sleeping a lot better these days than the other fellow.

"If your goal is to be very confident about having a certain amount of money at a point in time, lower-risk portfolios are actually a cheaper way to get there than a higher-risk portfolio," says Christopher Jones, of Financial Engines, an investment advisory firm.

If you, like many investors, have bailed out of stocks this year, you have, unfortunately, sold into the collapsing market and locked in your losses. But who could blame you? Most people can't handle the pain this market is inflicting. And the losses are worse because people nearing retirement often end up with way too much of their portfolios in stocks as they try to goose growth in their twilight working years.

The typical investor's thinking goes something like this: Stocks over time outperform both bonds and cash. So without a high allocation to stocks, you'll fall short of your financial goal, inflation will ravage your portfolio and your golden years will be tarnished as your money runs out before you do.

Big problem: The 80% or 70% stock portfolio that served you well in your 20s or 30s bites back in your 50s and 60s, when a crash erases years of growth in just a few weeks or months.

Start with a balance

There has to be a better, more automatic way to build wealth without constantly refiguring your investment mix. There is. Forget the stock-heavy plan and start with an equal balance of stocks and bonds.

Let's look at what happens when you ratchet down stocks early to a less volatile level: We asked investment researcher Morningstar to calculate your investment results if at the end of October 1987 -- a really frightening moment, right after the big crash that year -- you had put 50% of your money in a low-cost fund that mimicked the Dow Jones Industrial Average ($INDU:
Dow Jones Industrial Average) and 50% in a vehicle that mirrored long-term Treasurys.
Nowadays that could be accomplished at a low cost using the Dow "Diamonds" exchange-traded fund (DIA: Dow Diamonds ETF) and iShares Lehman 20+ Year Treasury Bond ETF (TLT:
iShares:Lehm 20+ Trs) . Over the decades, you would keep the allocation constant through annual rebalancing and would reinvest all stock dividends and bond income.

'Good enough' returns

The plan is to smooth your investment performance, accepting lesser short-term gains in exchange for milder, and less worrisome, short-term declines.

In this most recent 21-year example, by October of this year a 50%-50% portfolio would have averaged a 10% annual return and you would have insulated yourself from a significant portion of the market's day-to-day risk. Your best quarterly performance? A 13.8% gain in the value of your portfolio. Your worst? A 9.1% loss.

By comparison, a portfolio of 80% stocks and 20% Treasurys would have been exposed to considerably more market risk, but your return would average just a slightly better 10.3% a year. Your best quarterly performance would have been an increase of 17.6% in your portfolio while your worst would have been a 14.2% loss.

In the current bear market, the 50%-50% portfolio would be down about 14.6% from the October 2007 market peak through the end of last month, while the 80%-20% portfolio would be down 24.8%.

Over the 21-year period, the 50%-50% portfolio would have achieved 95% of the total dollar return of the 80%-20% mix, with substantially lower risk, a steadier performance and, for you, many fewer sleepless nights.

Not much difference

Make no mistake. The 50%-50% portfolio will leave you poorer than the riskier blend. But the difference isn't that substantial.

Had you put $25,000 into the 80%-20% split in 1987 and never invested another dime, the money would have grown to about $196,000. That same amount in the 50%-50% blend would be worth around $185,000.

The strategy holds up if you dollar-cost average, too, and invest a little at a time over the years. Add $100 a month, and $25,000 grows to $261,621 in the 80%-20% portfolio and $251,732 in the 50%-50% mix.

And even if you eliminate the market's horrendous decline over the past year from the calculations, the conservative plan still performs admirably. At the market's peak in October 2007, the 80%-20% portfolio would have been worth $261,109, while the 50%-50% split would have grown over that 20-year period to $217,222, capturing 83% of the more aggressive approach's return, but with far fewer bumps.

Of course in bull markets, you won't make as much with a 50%-50% portfolio. You'll give up bragging rights. But you also won't feel the raw fear that others do during the inevitable downturns. That should be worth a few thousand dollars right there.

Jonathan Burton is an assistant personal finance editor for MarketWatch, based in San Francisco.

http://www.marketwatch.com/news/story/how-invest-well-sleep-better/story.aspx?guid=%7BA27C214B%2DE1CE%2D4990%2D907C%2D67D1338851AC%7D#comments