VLS results over last year shows still worthwhile holding bonds

A_T

itwasntme001 wrote: »

you mentioned negative correlation being the best outcome. I just stated the worse case is for the correlation to be perfectly negative. Far better to be closer to zero correlation then -1. So disproving your point.

Perfectly negative correlation was introduced by you. I've been discussing long government bonds which are the most negatively correlated asset to equities but of course not -1.

You seem determined to misrepresent posters in this thread then argue with yourself. Not wasting any more time on you.

Linton

A_T wrote: »

No the best we can hope for is that the negative correlation will continue - as it has since the high inflation of the 70s. Today investors are still buying long treasuries when equities wobble.

But if gilt cannot rise to anything like the same extent they have done recently then the degree of protection offered is very much less. The other side of the picture is that global interest rates only need to rise by a small amount to have a significant effect on the price of long dated gilts.


For example the 4.5% gilt maturing 7/12/2042,current price £175, now has a yield to maturity of 0.9%. Were interest rates to rise so that investors demanded a 1.5% return for 20 year bonds , as was the situation only 5 months ago, the price would drop to £158, a fall of 10%. One year ago the market yield was 2%. When the market rate returns to this level the gilt price would be 146, a fall of 17% from the current value.



So it seems to me investing in long term gilts at current prices carries far more short to medium term risk than justified by the limited benefit it would provide in the event of an equity crash.

itwasntme001

A_T wrote: »

Perfectly negative correlation was introduced by you. I've been discussing long government bonds which are the most negatively correlated asset to equities but of course not -1.

You seem determined to misrepresent posters in this thread then argue with yourself. Not wasting any more time on you.

But would you not want both stocks and bonds to rise in the long run i.e. positive correlation? To want negative correlation goes against this. If you had said zero correlation then you would be right. To want negative correlation just does not make any sense whatsoever.

itwasntme001

Linton wrote: »

But if gilt cannot rise to anything like the same extent they have done recently then the degree of protection offered is very much less. The other side of the picture is that global interest rates only need to rise by a small amount to have a significant effect on the price of long dated gilts.


For example the 4.5% gilt maturing 7/12/2042,current price £175, now has a yield to maturity of 0.9%. Were interest rates to rise so that investors demanded a 1.5% return for 20 year bonds , as was the situation only 5 months ago, the price would drop to £158, a fall of 10%. One year ago the market yield was 2%. When the market rate returns to this level the gilt price would be 146, a fall of 17% from the current value.



So it seems to me investing in long term gilts at current prices carries far more short to medium term risk than justified by the limited benefit it would provide in the event of an equity crash.

It seems the market thinks otherwise to you. There is a scenario where going forward long term equities are seen to not provide enough return for the risk going forward, gold is just too volatile to put big money into and property is far too time consuming and illiquid to invest into. Bonds have become the place to be. It could continue for a very long time yet. Looking forward about 10 years into the future, bonds may very well have been the smart bet even with 0.9% ytm.


Whilst a small rise in yields can cause big drop in price due to convexity, especially for long duration bonds, it can also cause a big rise in price for a small drop in yield.

itwasntme001

Perhaps going forward the best thing is to pick a well managed stock fund. I can see how index over the long run can severely under-perform certain active fund strategies.

Brian65

itwasntme001 wrote: »

Don't agree. You could easily make the case of a sharp sell off in equities and further bond rally even in the long run. There are fundamental reasons for why bond yields have fallen so much and can stay low for a very long time.

The safest bonds eg Germany are well into negative interest rates. How much more negative can they go?

Linton

itwasntme001 wrote: »

It seems the market thinks otherwise to you. There is a scenario where going forward long term equities are seen to not provide enough return for the risk going forward, gold is just too volatile to put big money into and property is far too time consuming and illiquid to invest into. Bonds have become the place to be. It could continue for a very long time yet. Looking forward about 10 years into the future, bonds may very well have been the smart bet even with 0.9% ytm.

The market for bonds is driven by institutions and companies as a convenient and safe repository for large amounts of cash, banks arent that keen on taking on a few £10Ms of instant access cash. There will always be a need for this. Such investors would be prepared to pay a small negative return if it was cheaper than paying bank fees. Small investors with very different objectives wanting to diversify away from equities are a minor part of the market.


For small investors the yield is pretty irrelevent as are individual bonds. What matters is the capital value of funds.

Whilst a small rise in yields can cause big drop in price due to convexity, especially for long duration bonds, it can also cause a big rise in price for a small drop in yield.

The risk now is highly asymmetric as the space available for falls in yields is much smaller then that for rises. Cash is much safer and the difference in interest is a marginal factor.

itwasntme001

Of course it is the big money as opposed to retail investors driving bond yields low. That is obvious.


Small investors may only care about the fund value but that translates to caring about what happens to yields.


The risk may look asymmetric but big money does not care. Try telling that to Japanese big money investors in the late 90s. They would be upset to have sold their JGBs for the Nikkei.


No one really knows for sure what will happen in the future but it appears the market (i.e. the big money) thinks capital preservation is of priority and that bonds provides for this as opposed to stocks. Stocks are very risky and to even think long term stocks will beat bonds for certainty is being very complacent.

Linton

itwasntme001 wrote: »

Of course it is the big money as opposed to retail investors driving bond yields low. That is obvious.

Small investors may only care about the fund value but that translates to caring about what happens to yields.


The risk may look asymmetric but big money does not care. Try telling that to Japanese big money investors in the late 90s. They would be upset to have sold their JGBs for the Nikkei.


No one really knows for sure what will happen in the future but it appears the market (i.e. the big money) thinks capital preservation is of priority and that bonds provides for this as opposed to stocks. Stocks are very risky and to even think long term stocks will beat bonds for certainty is being very complacent.

Bonds only provide capital preservation if you hold them to maturity. Before then anything can happen. The big players can adjust their bond holdings so that they arent affected by what happens to capital values in the meantime and that the cash is available when they need it. That is why "big money does not care".



Small investors using bond funds are highly dependent on temporary current capital values and cannot readily adjust their bond portfolios to correspond with the timing of their cash needs. When they sell their fund units it is likely that many of the underlying bonds will be far from maturity. So they will care very much.

itwasntme001

Linton wrote: »

Bonds only provide capital preservation if you hold them to maturity. Before then anything can happen. The big players can adjust their bond holdings so that they arent affected by what happens to capital values in the meantime and that the cash is available when they need it. That is why "big money does not care".



Small investors using bond funds are highly dependent on temporary current capital values and cannot readily adjust their bond portfolios to correspond with the timing of their cash needs. When they sell their fund units it is likely that many of the underlying bonds will be far from maturity. So they will care very much.

The purpose of retail investors buying a multi-asset fund that includes both stocks and bonds is to provide uncorrelated exposure and therefore to reduce volatility to a level they are comfortable with, perhaps in order to sell off some of the fund for spending without doing so after large draw-downs on an expected basis. Whether it actual does reduce volatility is another question entirely.


The big money investors need an asset class that is liquid and deep and bonds are the perfect place to park capital even at current yields. At these level of yields or even at the higher yields we saw last year, buying bonds would guarantee a capital loss on a nominal basis even if held to maturity (as they are being bought above par). Perhaps big money sees losing/risking money in bonds better than the alternative?


The question you gotto ask is why is big money doing this and for how long will they do this? Those are literally the trillion dollar questions.