Vanguard hedged global bond index vs. VLS as the bond element decreases

aroominyork

This graph shows the hedged Vanguard global bond index (orange C), VLS 20% (red A), VLS 40% (brown B ), and VLS 60% (purple D). What surprises me is the much wider gap between 0% bonds and 20% bonds, than between the additional 20% bond increments. What is the reason for this, please? Is it that VLS does not hedge its bonds (edit: which looking at this fundsheet, is clearly not the case)?

Edit. Please see next two posts for a rookie error in not saying what I intended.

bowlhead99

aroominyork said:

What surprises me is the much wider gap between 0% bonds and 20% bonds, than between the additional 20% bond increments. What is the reason for this, please?

? Your premise is false, as you haven't included 20% bonds or 0% bonds on your graph. 

VLS 20 is not 20% bonds but 20% equity; you haven't included what 100% equity even looks like, to see what result you might expect to get if you added increments of a fifth of the 100% equities fund to your baseline.

And the VLS does not use 'global bonds tracker' as bond component; instead using a variety of different bond trackers.
 

aroominyork

Oops, I meant between 100% bonds and 80% bonds, and then reducing 20% bonds components. So I guess it comes down to VLS not using a global bond tracker but, eg, including UK linkers. Is that the bottom line and, if so, what does this say about comparing the different approaches to bond indexing?

Alexland

aroominyork said:

what does this say about comparing the different approaches to bond indexing?

Not much - in this period something did better than something else.
A multi asset fund is a bit more complicated than just buying the percentage allocations at the start and letting it run as the enhanced returns of the equities will have been causing the fund manager to be buying more bonds to maintain the fixed percentage allocations. Similarly at the other end of the risk spectrum the 100% equities doesn't do significantly better than the 80% equities when measured across a full economic cycle because in bad times the bond returns will be buying more cheap equities. If you want to compare different bond approaches it might be better to use samples that don't contain equities and rebalancing around a fixed allocation.

aroominyork

Usually I'd agree not to expect consistent linear relationships between funds but something else seems to be happening here. I have charted all five VLSs. Over five years, as you increase the bond allocation in 20% increments from VLS100, the total return falls by around 7%; but when comparing VLS20 to bond index fund the fall is 12%. Also, look at the figures for 1 year: as you increase the bond allocation from VLS100 to VLS20 total performance improves - but then steps backwards (albeit only slightly) when comparing the bond index to VLS20. 

Bowlhead said "... the VLS does not use 'global bonds tracker' as bond component; instead using a variety of different bond trackers", which presumably is the case since otherwise there would be a closer alignment between the global bond index and LifeStrategy funds. Looking at "top 10 countries" on HL, the global bond index is 4.35% UK, while VLS20 is 28.76% UK; assuming that applies to fixed interest and not just the equity component, does that mean the VLS funds buy a higher proportion of UK fixed interest, as they do for equities? And, if so, what has happened in the fixed interest markets to make the UK overperform in recent years compared to global fixed interest?



Edit: VLS is overweight to UK fixed interest. This link shows VLS20's allocations; p9 shows UK fixed interest as 26.8% of the total fund (plus, presumably, a small component of Vanguard Global Bond Index Fund's 19.28%). This link shows the global index fund's allocation: p366 shows 4.37% for the UK. So I come back to my question of what happened in the fixed interest markets to make the UK overperform in recent years compared to global fixed interest? (Graph below seems to illustrate.)

Audaxer

aroominyork said:

Usually I'd agree not to expect consistent linear relationships between funds but something else seems to be happening here. I have charted all five VLSs. Over five years, as you increase the bond allocation in 20% increments from VLS100, the total return falls by around 7%; but when comparing VLS20 to bond index fund the fall is 12%. 

Could it simply be that as the VLS20 regularly rebalances and buys equities when prices have fallen to keep the 20% equity allocation, that has a more positive effect on the returns that simply a Global Bond Index? Maybe that is part of the reason why VLS20 is 12% greater than the Global Bond index rather than the 7% between the other VLS funds?

dont_look_now

About 10% of the bonds in VLS are in index-linked gilts. Try comparing VLS to a portfolio consisting of 90% in Vanguard Global Bond Index Fund Hedged GBP and 10% in Vanguard UK Inflation Linked Gilt Index Fund. Perhaps IL gilts have outperformed over the last 10 years, which could explain apparently better performance of the bonds in VLS.

(Your comparison of the global bond fund to a UK investment-grade bond fund does not give a full picture, because the global fund is 2/3 government bonds + 1/3 corporate bonds, and the UK fund is all in corporate bonds, so global vs UK is not the only difference between them.)

aroominyork

Audaxer said:

aroominyork said:

Usually I'd agree not to expect consistent linear relationships between funds but something else seems to be happening here. I have charted all five VLSs. Over five years, as you increase the bond allocation in 20% increments from VLS100, the total return falls by around 7%; but when comparing VLS20 to bond index fund the fall is 12%. 

Could it simply be that as the VLS20 regularly rebalances and buys equities when prices have fallen to keep the 20% equity allocation, that has a more positive effect on the returns that simply a Global Bond Index? Maybe that is part of the reason why VLS20 is 12% greater than the Global Bond index rather than the 7% between the other VLS funds?

No, I don't think so, Audaxer. If rebalancing to maintain 20% equities had such a huge impact on performance it would be the ninth wonder of the world (after Einstein called compound interest the eighth.)

dont_look_now said:

About 10% of the bonds in VLS are in index-linked gilts. Try comparing VLS to a portfolio consisting of 90% in Vanguard Global Bond Index Fund Hedged GBP and 10% in Vanguard UK Inflation Linked Gilt Index Fund. Perhaps IL gilts have outperformed over the last 10 years, which could explain apparently better performance of the bonds in VLS.

(Your comparison of the global bond fund to a UK investment-grade bond fund does not give a full picture, because the global fund is 2/3 government bonds + 1/3 corporate bonds, and the UK fund is all in corporate bonds, so global vs UK is not the only difference between them.)

Linkers have risen and, yes, are one way VLS includes funds which are not in the global index. And you are right that using a corporate IG index was comparing apples and pears. But I still don't fully understand the apparent better performance of the bonds held within VLS compared to the global index: has UK fixed interest outperformed global fixed interest over a number of years, and, if so, why?

Sheriff_Fatmen

I would expect that the compounding effect of the 20% equities (as compared to the equivalent 20% global hedged bonds), in conjunction with the costs associated with the 'currency hedging' would be the main reason.

bowlhead99

 aroominyork said:

Usually I'd agree not to expect consistent linear relationships between funds but something else seems to be happening here. I have charted all five VLSs. Over five years, as you increase the bond allocation in 20% increments from VLS100, the total return falls by around 7%; but when comparing VLS20 to bond index fund the fall is 12%. Also, look at the figures for 1 year: as you increase the bond allocation from VLS100 to VLS20 total performance improves - but then steps backwards (albeit only slightly) when comparing the bond index to VLS20. 

If you look at the 5 year figures where 100% equities gets 58.8% and 80% equities, 20% bonds gets 51.8% etc... you can do the maths to see that (ignoring the effects of periodic rebalancing) the figure for the Lifestrategy mix of bonds would need to be about 23.8%, for 80:20 equities:bonds to give 51.8% and for 60:40 to give 44.8%.
 
Plugging 23.8% as bonds into 40:60 equities:bonds would be 37.8% (similar to 37.5% in the table above) and 20:80 would be 30.8% (similar to 30.6% actual).

So the mix of bonds (which is slightly different across the different LS funds anyway) is giving you perhaps 23.5 to 23.8% five year return. 

That's not particularly unreasonable for a mixed set of bond funds hedged to sterling, given the IA Sterling Strategic Bond sector average for that period was 22.2% with several doing better (e.g. Jupiter Strategic Bond was 25%).

I think you are on a hiding to nothing if you are going to try to use either Vanguard's 'global bond' index, or the UK 'investment grade corporate bond' index (either of which you know is a different mix of bonds than they use in the Lifestrategy, one getting higher returns and one getting lower), then plug it into the Lifestrategy returns and say oh look, it doesn't fit, something funny is going on.

Nothing funny is going on. Simply, the mix of bond funds they used (which differs a bit across the products) did not deliver the same return as either of the bond fund index you looked at. That's generally to be expected, as a multi-asset fund is not generally trying to deliver the result of a single index.

aroominyork

So you are essentially taking VLS out of the equation and are pointing out that the bonds in VLS perform similarly to the IA Sterling Strategic Bond (SSB) sector, and the SSB sector performs differently to a hedged global bond index. Is that right? The graph below suggests a hedged global bond index is less volatile than the SSB sector; is there a reason why that is typically so?