Is now a good time to buy bonds?

dllive

Hi.
Im looking at the ETFs that Vanguard have to offer. Is now a good time to buy bonds? For example, their USD Corporate Bond UCITS ETF is paying 3.36%. (unless Im reading that wrong!). 
https://www.vanguardinvestor.co.uk/investments/vanguard-usd-corporate-bond-ucits-etf-usd-distributing/distributions?intcmpgn=fixedincomeusa_usdcorporatebonducitsetf_fund_link

fun4everyone

It’s a good time to be selling face masks on eBay imo.

wiseonesomeofthetime

@dllive
I know very little about investing over saving, however, to me, that 3.36% does not read as a guaranteed return rate for your investment, simply what the yield was at 31 Jan 2020.
In fact, the page you link to has multiple warnings about your investment possibly decreasing over time, akin to shares investments, albeit a generic warning I know.
Price & Performance over the last 12 months shows an impressive 10% rise, however, again, this is not guaranteed going forward.
There will, hopefully, be more contributors to your request, with far superior knowledge in this field than me, who may assist you better.

wiseonesomeofthetime

fun4everyone said:

It’s a good time to be selling face masks on eBay imo.

I know it was tongue in cheek, however, even I would not risk selling them without Public Liability Insurance as you would no doubt be inundated with claims when the person still catches the virus and blames the product.

No return >3.36% then 🤣

city_of_london

In part, the historic yield on that ETF reflects that interest rates are currently higher in dollars than in pounds. A comparable fund, except that it holds corporate bonds denominated in sterling, not dollars, is Vanguard U.K. Investment Grade Bond Index Fund, which has a historic yield of 2.35%, i.e. about 1% lower.

The ETF does not hedge currency, so it will experience large swings in its value, when you look at it in pounds, as the USD:GBP rate fluctuates. If you instead bought a similar fund which also held USD corporate bonds, but which did hedge the currency back to sterling, then the costs of the hedging would probably about wipe out the 1% advantage in yield (though I'm not sure whether the hedging costs would show up as a reduction in yield or as reduction in capital return).

The 2.35% yield on the sterling corporate bond fund is also subject to various risks. It is of course not a guaranteed return. Various investment-grade corporate borrowers have promised to pay fixed rates of interest for a number of years, and then to repay the sums they originally borrowed. However, those bonds are on average trading at more than their face value (the amount to be repaid), so you expect to get the 2.35% followed by a capital loss. The yield to redemption (YTM) of the fund is 1.6%: this number is the effective return you might expect, allowing for both the running interest and the capital loss. (Similarly, the USD ETF we started with has a YTM of 2.6%.)

You might actually expect a little more return than the YTM, other things being equal (which they of course won't be ), because as bonds mature (are repaid), the cash will be rolled over into newer, relatively longer-term bonds, which will generally pay a bit more.

However, you are locked into a fixed interest rate for a few years, so in the short term your fund/ETF will tend to go down if prevailing interest rise (and to go up if they fall).

And there is some credit risk: these corporate borrowers may not be able to pay what they've promised. This affects both interest and capital repayment. These funds/ETFs are investment grade, so you would not expect many defaults; what is more common is that some borrowers are downgraded to below investment grade, at which point the prices of their bonds fall very sharply, and these funds/ETFs sell them automatically, giving a capital loss. And these kind of problems are more likely to show up if we are entering a serious economic crisis, or just a global recession, or a global slow-down, because these events will put the finances of some corporate borrowers under strain.

So, no, it's not an obvious thing to buy at all. Though it could have a place in a larger portfolio, yadda yadda .

Albermarle

And if you do not  fully understand the detailed analysis above ( or the detail of how ETF's work ) then probably better to stick to the old adage 'only buy what you understand ', like I do 

Linton

dllive said:

Hi.
Im looking at the ETFs that Vanguard have to offer. Is now a good time to buy bonds? For example, their USD Corporate Bond UCITS ETF is paying 3.36%. (unless Im reading that wrong!). 
https://www.vanguardinvestor.co.uk/investments/vanguard-usd-corporate-bond-ucits-etf-usd-distributing/distributions?intcmpgn=fixedincomeusa_usdcorporatebonducitsetf_fund_link

Over the past year the fund paid 3.36% of its current value in interest: that is what the "yield" means.  There is no guarantee that this will be repeated next year. More importantly ithe figure says nothing about what happened to the capital value.  The change in capital value (up or down) can easily be more than the interest gained.  This risk is enhanced with bonds operating in foreign currencies.  The rate of £ against the dollar again could easily change by more than the yield.  If the £ decreases in value the ETF value increases in £ terms and vice versa.

poto

city_of_london said:

So, no, it's not an obvious thing to buy at all. Though it could have a place in a larger portfolio, yadda yadda .

City_of_london, I genuinely think that you provided a great analysis, but then bonds would never be a thing to buy, wouldn't they? That sounds a bit off, there must be something flawed with that, what's that? When should I buy bonds? Or should I go for a different type of bond, as gilts\high yield\strategic?

city_of_london

poto said:

city_of_london said:

So, no, it's not an obvious thing to buy at all. Though it could have a place in a larger portfolio, yadda yadda .

City_of_london, I genuinely think that you provided a great analysis, but then bonds would never be a thing to buy, wouldn't they? That sounds a bit off, there must be something flawed with that, what's that? When should I buy bonds? Or should I go for a different type of bond, as gilts\high yield\strategic?

Well, that's interesting, because I hold a large chunk in a sterling corporate bond fund (which is pretty similar to the Vanguard U.K. Investment Grade Bond Index Fund, mentioned above) . The basic case for it is that it is somewhere between equities and cash in risk/reward. It can fall in value, unlike cash, but not nearly as dramatically as equities can; for instance, while equities have been tumbling recently, my corporate bonds have barely moved. I also expect interest rates to stay low for a long time, so I am pretty relaxed about holding bonds whose value will fall (or rise) when interest rates rise (or fall).

You ask when you should buy bonds. IMHO, it shouldn't be about when, but about where it fits into a portfolio. Timing buying and selling bonds is as hard as timing buying and selling equities. I have a large enough amount invested that it is probably enough that I could live off it without earning more. I have enough cash to cover a year or two's expenditure; if I put all the rest in equities, I would be rather exposed in the event that we enter a prolonged bear market, because I might have to sell equities at low prices to cover expenditure. So having a large chunk in corporate bonds gives me something to draw from, after my cash, if equities go down and don't go back up for five years or so. I know I would probably get higher returns from equities than bonds, and I'm used to the ups and downs of equities, but it doesn't make sense to go all in on equities (except for a little cash) in my situation. If I was younger, with a smaller amount invested, I might well go for mostly equities plus a little cash instead.

Other types of bonds have different pros and cons, as you suggest. Gilts differ from corporate bonds by having (a) no credit risk and (b) even lower YTMs. The positive feature of gilts is that they (especially longer-term gilts) often rise when equities are falling. I have a tiny bit (should probably have more) in a long-term gilts fund, which has indeed gone up 2% or so over the last few weeks. Short-term gilts have less point, because you can get a higher return from retail cash accounts (at c. 1.3%), and they don't go up (or down) in value very much.

I'm less keen on high-yield bonds, because they are likely to go down significantly when equities go down (though by a smaller percentage). Though holding a small amount of them might not do any harm.

Strategic bond funds can just hold combinations of all the above bonds, so I don't feel they add anything.