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Bonds newbie

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chucknorris
chucknorris Posts: 10,793 Forumite
Part of the Furniture 10,000 Posts Name Dropper
edited 14 October 2017 at 8:38AM in Savings & investments
I’m trying to justify to myself why I should invest in bonds. I am going to sell nearly all my investment properties in the next 4-6 years, and I already have a significant amount in shares, so on the one hand bonds seem like a good way to maintain portfolio diversity, but on the other what is the point in targeting much smaller returns? I suppose my real struggle is changing my investment approach (as I get older) from investing for growth, to investing defensively to protect my capital. Has anyone else struggled with this? But the more that I think about this, the more I am beginning to realise that I have my head stuck in the sand, by ignoring valid reasons for holding bonds. Is it reasonable to be 66 years old (the point where most of my properties are sold) and about 70% (I'll keep a half share in one property for diversity and I do have some DB pension and I am also counting in my state pension) of my wealth invested in shares? Probably not is my guess, so I need to convince myself to invest in bonds, as I think my preferred wealth storage would be something like:

40 to 50% shares
23% fixed pension (DB and state)
20 to 30% bonds
4% investment property
3% cash

Before I sell my remaining investment properties, there will be a window to invest in bonds because we are looking to buy a new home (hopefully 4-12 months, we are still looking) and our strategy is to buy with cash (so that we are a preferred buyer), and then sell our current home. At which point I will have quite a bit of cash (I bought our home rather than us) that I could invest in bonds. I prefer the look of individual corporate bonds held to maturity rather than bond funds (mainly to protect myself from falling values if interest rates go up).

Does anyone have any comments?
Chuck Norris can kill two stones with one birdThe only time Chuck Norris was wrong was when he thought he had made a mistakeChuck Norris puts the "laughter" in "manslaughter".I've started running again, after several injuries had forced me to stop
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Comments

  • jamei305
    jamei305 Posts: 635 Forumite
    Tenth Anniversary 500 Posts Name Dropper
    edited 14 October 2017 at 9:34AM
    I prefer the look of individual corporate bonds held to maturity rather than bond funds (mainly to protect myself from falling values if interest rates go up).

    The way I understand it you wouldn't be protecting yourself this way. The money you'd lose by selling a bond fund at loss if interest rates have risen considerably wouldn't be much different from the lost interest you'd suffer by continuing to hold to maturity instead of reinvesting at the prevailing higher rate.
  • This reply isn't going to help you much except to say that I too have been struggling to understand how best to use bonds in my portfolio. There's a great deal of of discussion of strategies and products to do with equities - very little on bonds.

    In the end I've come to think of bonds as a place to store some of the excess gains that the equity portion has been making over the last few years, for the inevitable point when equities drop a lot and I can buy some cheap (n.b. not timing the market - I rebalance on my birthday each year). In the mean time I just want the money to match inflation - no more.

    I've also decided to increase my allocation recently from less than 10pc to nearer 30pc after reading https://earlyretirementnow.com/2017/09/20/the-ultimate-guide-to-safe-withdrawal-rates-part-20-more-thoughts-on-equity-glidepaths/

    I see this as only temporary - for around 5 years either side of retirement - perhaps less if we have a proper crash - I'm hoping it will be before rather than after I knock off.
  • chucknorris
    chucknorris Posts: 10,793 Forumite
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    edited 14 October 2017 at 10:22AM
    jamei305 wrote: »
    The way I understand it you wouldn't be protecting yourself this way. The money you'd lose by selling a bond fund at loss if interest rates have risen considerably wouldn't be much different from the lost interest you'd suffer by continuing to hold to maturity instead of reinvesting at the prevailing higher rate.

    I don't think that I would want to sell shares to invest more in a bond fund after the fund price had fallen, I would rather leave my money in equities, where the return is higher and also avoid paying CGT on my shares (which would be significant). I would however do it the other way around, if equities fell 30%, I would sell bonds to invest in shares.

    But maybe I am under estimating bonds, do you think that I should be more strategic with them? It doesn't get over having to pay CGT on shares to invest in bands though.
    Chuck Norris can kill two stones with one birdThe only time Chuck Norris was wrong was when he thought he had made a mistakeChuck Norris puts the "laughter" in "manslaughter".I've started running again, after several injuries had forced me to stop
  • chucknorris
    chucknorris Posts: 10,793 Forumite
    Part of the Furniture 10,000 Posts Name Dropper
    point5clue wrote: »
    This reply isn't going to help you much except to say that I too have been struggling to understand how best to use bonds in my portfolio. There's a great deal of of discussion of strategies and products to do with equities - very little on bonds.

    In the end I've come to think of bonds as a place to store some of the excess gains that the equity portion has been making over the last few years, for the inevitable point when equities drop a lot and I can buy some cheap (n.b. not timing the market - I rebalance on my birthday each year). In the mean time I just want the money to match inflation - no more.

    I've also decided to increase my allocation recently from less than 10pc to nearer 30pc after reading https://earlyretirementnow.com/2017/09/20/the-ultimate-guide-to-safe-withdrawal-rates-part-20-more-thoughts-on-equity-glidepaths/

    I see this as only temporary - for around 5 years either side of retirement - perhaps less if we have a proper crash - I'm hoping it will be before rather than after I knock off.

    Thanks, I'll have a read of that link later, not exactly light reading, so I'll wait until I have my analytical head on. I too see bonds as a way of parking money rather than a main investment, I've only just started to seriously consider them, so maybe I haven't quite got there yet, but I see them as mainly protection from a share price crash.
    Chuck Norris can kill two stones with one birdThe only time Chuck Norris was wrong was when he thought he had made a mistakeChuck Norris puts the "laughter" in "manslaughter".I've started running again, after several injuries had forced me to stop
  • ColdIron
    ColdIron Posts: 9,829 Forumite
    Part of the Furniture 1,000 Posts Hung up my suit! Name Dropper
    If you're looking for protection rather than income how about a managed wealth preservation fund like Personal Assets? Blue chip equities, US/UK T Bills and some inflation protection, even some gold? It fared well during the GFC as did Ruffer and Capital Gearing, Would you be looking to buy corporate bonds from launch? Choice may be an issue there
  • chucknorris
    chucknorris Posts: 10,793 Forumite
    Part of the Furniture 10,000 Posts Name Dropper
    ColdIron wrote: »
    If you're looking for protection rather than income how about a managed wealth preservation fund like Personal Assets? Blue chip equities, US/UK T Bills and some inflation protection, even some gold? It fared well during the GFC as did Ruffer and Capital Gearing, Would you be looking to buy corporate bonds from launch? Choice may be an issue there

    Thanks, but I would be looking for reasonably decent income, so gilts, gold and the like would be out of the question. I should have been clearer, when I said 'protection' I really meant against a stock market crash, I don't mind taking on a bit of risk, but I would hate to invest in something like gold with no yield or gilts with next to nothing, it just isn't me.
    Chuck Norris can kill two stones with one birdThe only time Chuck Norris was wrong was when he thought he had made a mistakeChuck Norris puts the "laughter" in "manslaughter".I've started running again, after several injuries had forced me to stop
  • bigadaj
    bigadaj Posts: 11,531 Forumite
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    You seem to be falling into the classic problem of trying to make the solution fit your problem rather than looking at the real situation.

    Interest rates are low, when they rise then bonds will fall, corporate bonds are more risky than government ones, so their value will no doubt fall more steeply.

    Bond funds provide some spread of risk but still won't move independent of other factors, so you're looking for a decent return which means you're increasing risk and your bonds are looking more equity like.

    It's a nil sum game to a large extent, a combination of redemption to yield and riskiness of the issuer mean that you aren't going to radically exceed base rates, bond values are actually elevated as well by the fact that many institutions are forced to hold them even where they don't offer any value.

    There isn't a simple answer you eithe accept risk of capital loss or accept very low returns.

    You don't mention p2p in your asset mix which would at least be some diversification, most other bond proxies including infrastructure, property etc also have the potential for capital loss.
  • chucknorris
    chucknorris Posts: 10,793 Forumite
    Part of the Furniture 10,000 Posts Name Dropper
    edited 14 October 2017 at 12:54PM
    bigadaj wrote: »
    You seem to be falling into the classic problem of trying to make the solution fit your problem rather than looking at the real situation.

    Interest rates are low, when they rise then bonds will fall, corporate bonds are more risky than government ones, so their value will no doubt fall more steeply.

    Bond funds provide some spread of risk but still won't move independent of other factors, so you're looking for a decent return which means you're increasing risk and your bonds are looking more equity like.

    It's a nil sum game to a large extent, a combination of redemption to yield and riskiness of the issuer mean that you aren't going to radically exceed base rates, bond values are actually elevated as well by the fact that many institutions are forced to hold them even where they don't offer any value.

    There isn't a simple answer you eithe accept risk of capital loss or accept very low returns.

    You don't mention p2p in your asset mix which would at least be some diversification, most other bond proxies including infrastructure, property etc also have the potential for capital loss.

    I think my real situation is that I am approaching an age where I should be reducing my risk, hence the interest in bonds. I'm hoping that I can escape the hit that bonds take when interest rates rise by investing in individual corporate bonds, and hold them to maturity.

    P2P (and VCT's) are something that I would consider, but probably no more than 3% of my portfolio, I've added it to my target retirement portfolio below. It might need a bit of tweaking but I'm starting to feel comfortable with it, and I feel I am on the right track (but open to suggestions):

    40% shares (excl VCT)
    25% bonds
    23% fixed pension (DB and state)
    4% investment property
    3% cash (regular savers/NSI cert/savings acc)
    3% P2P (possibly)
    2% VCT (possibly)
    Chuck Norris can kill two stones with one birdThe only time Chuck Norris was wrong was when he thought he had made a mistakeChuck Norris puts the "laughter" in "manslaughter".I've started running again, after several injuries had forced me to stop
  • bigadaj
    bigadaj Posts: 11,531 Forumite
    Ninth Anniversary 10,000 Posts Name Dropper
    If you buy individual bonds at issue and hold to maturity then you remove the market value issues, however individual corporate bonds are a far way up the risk scale from what you'd classically hold bonds for.

    You'd need a fair range of companies to spread and mitigate the risk with default, and it's more work, but might be a worthwhile option.
  • chucknorris
    chucknorris Posts: 10,793 Forumite
    Part of the Furniture 10,000 Posts Name Dropper
    edited 14 October 2017 at 3:38PM
    bigadaj wrote: »
    If you buy individual bonds at issue and hold to maturity then you remove the market value issues, however individual corporate bonds are a far way up the risk scale from what you'd classically hold bonds for.

    You'd need a fair range of companies to spread and mitigate the risk with default, and it's more work, but might be a worthwhile option.

    I just want less risk than a portfolio holding 65% equities, hence something like 40% equities and 25% bonds. I would tend to go for safer companies (but I know no company is 100% safe), in this current market I'd probably be happy enough with a yield from about 3 to 3.75%.
    Chuck Norris can kill two stones with one birdThe only time Chuck Norris was wrong was when he thought he had made a mistakeChuck Norris puts the "laughter" in "manslaughter".I've started running again, after several injuries had forced me to stop
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