Suggestions for Bond funds to de-risk into retirement

older_and_no_wiser

I am looking to retire in a couple of years (at age 57/58).

My pension DC SIPP funds are currently around 95% equity in these funds:
HSBC Global Strategy Dynamic
Fidelity World index P
Black Rock MyMap 6

I also have a few satellite managed funds in more risky equity (UK Micro Cap, BG American, UK Small Cap, China, Japan) and a global small cap tracker. 

The satellite funds are around 20% of the total SIPP and are all currently down since I opened them around 3-4 years ago.

In addition to the above, I have a few stock ISAs 100% in global equity trackers (Fidelity index World P, HSBC FTSE Global). They are all performing fine.

I also have around 10% of my portfolio in high interest fixed savings earning 6% currently.

My total portfolio is more than enough (maybe a couple of times over!)  to sustain my lifestyle until death (I've done all the calculations) and I also have full SP at 67. I have no requirements to leave any legacy.

Now my question (finally!).

For peace of mind, I am considering moving my satellite funds into bond funds. They currently add up to around £70,000. This seems to be a good time to move back into bonds - although I appreciate I shouldn't time the market! 

I could argue that I don't need to do this as my total portfolio is more than enough for my needs moving into retirement when I'll be using FAD. I may never need to access those satellite funds. 

If I were to move that element into bonds, does anyone have any suggestions for which fund(s) may be suitable? Ideally cheap passive trackers and not managed funds. I just want to 'fire and forget' once bought. I may need to rebalance occasionally in retirement. 

While I understand stocks/equities, I really struggle with bonds and how to choose the right ones - even after hours of research and watching Ramin etc on YouTube!

JohnWinder

You diversify with stocks because any one stock can fail, from the smallest to General Electric, Kodak or General Motors which went bankrupt. Bonds are different: they’re a promise to pay you back and pay you interest. If the promiser can be trusted, like the UK Treasury can, you don’t need to diversify the borrower. If you buy corporate bonds, you’d better diversify.

You diversify to control risk. Bonds have three risks: credit risk (the bond issuer will default on payments - unlikely with UK govt); interest rate risk (interest rates will rise, so your bond value will fall etc) - this is also called ‘duration’ risk or re-investment risk (your bond matures, you reinvest, but now interest rates are lower than before so it’s a worse investment); unexpected inflation risk (all bonds give some compensation for the anticipated inflation that will reduce the purchasing power of your money when the bond matures, but if there’s more inflation you lose out).

You choose your bonds/funds to deal with those risks. If UK Treasury default is a concern, buy global bonds. If the credit worthiness of many businesses worry you, buy only government bonds or highly (credit) rated bonds.  If interest rate changes worry you, buy a spread of maturities (as bond indexes hold). If you’re worried about unexpected inflation, buy index linked bonds in the currency whose inflation will affect you. 

dunstonh

Many people, who are more active in their portfolios are using short term money market funds at the moment for a lot or all of their defensive allocation with a view to returning to gilts in the future.     With interest rates as they are, a short term period in STMM is not a bad thing.

However, if you are a "lazy" investor then making adjustments in the short term is not going to be your cup of tea.

Linton

You need to decide why you want to hold bonds.  In the accumulation phase it's easy - there is little point (arguably) in holding bonds at all unless you get nervous about the volatility of equity.

Retirement is very different particularly if significant ongoing drawdown from your  pension pot is essential for maintaining an acceptable standard of living.  You will need to define a strategy for how you are going to sustainably drawdown a fairly stable amount if money, increasing with inflation, when equity is volatile.  There is much discussion on this topic in this forum and elsewhere.

Once you have a strategy the role of bonds and hence the type of bonds you should buy will be much clearer.

NithyaH

Are you sure about your level of equity exposure in your core funds?  Two of those only hold about 80% equities.  Do you hold mainly the Fidelity fund?

aroominyork

dunstonh said:

Many people, who are more active in their portfolios are using short term money market funds at the moment for a lot or all of their defensive allocation with a view to returning to gilts in the future.     With interest rates as they are, a short term period in STMM is not a bad thing.

On the basis that the base rate has probably peaked and might start falling next year? Does the market have a view on where the base rate will settle?

dunstonh

aroominyork said:

dunstonh said:

Many people, who are more active in their portfolios are using short term money market funds at the moment for a lot or all of their defensive allocation with a view to returning to gilts in the future.     With interest rates as they are, a short term period in STMM is not a bad thing.

On the basis that the base rate has probably peaked and might start falling next year? Does the market have a view on where the base rate will settle?

From one week to the next throughout most of this year, the markets don't have a clue if the rate has peaked or going to rise again.  A couple of weeks ago, it was back to the markets seeing further rises.   So, you generally see opinions swinging from one side to the next regarding the peak and I don't recall seeing much about where they may settle once they are sure they are going to fall.   I don't think anyone is expecting a return to post credit crunch levels though.

GazzaBloom

JohnWinder said:

You diversify with stocks because any one stock can fail, from the smallest to General Electric, Kodak or General Motors which went bankrupt. Bonds are different: they’re a promise to pay you back and pay you interest. If the promiser can be trusted, like the UK Treasury can, you don’t need to diversify the borrower. If you buy corporate bonds, you’d better diversify.

You diversify to control risk. Bonds have three risks: credit risk (the bond issuer will default on payments - unlikely with UK govt); interest rate risk (interest rates will rise, so your bond value will fall etc) - this is also called ‘duration’ risk or re-investment risk (your bond matures, you reinvest, but now interest rates are lower than before so it’s a worse investment); unexpected inflation risk (all bonds give some compensation for the anticipated inflation that will reduce the purchasing power of your money when the bond matures, but if there’s more inflation you lose out).

You choose your bonds/funds to deal with those risks. If UK Treasury default is a concern, buy global bonds. If the credit worthiness of many businesses worry you, buy only government bonds or highly (credit) rated bonds.  If interest rate changes worry you, buy a spread of maturities (as bond indexes hold). If you’re worried about unexpected inflation, buy index linked bonds in the currency whose inflation will affect you. 

^^^ That's a great summary of bonds. I am in a similar position to the OP with a largely equity index funds holding and looking to start de-risking a portion ahead of a planned retirement date in 2025. I was set on all pension contributions from Jan 2024 to go to cash or money market fund within the pension wrapper but also now also considering re-allocation of some of the cash and equity holding to bonds and your summary on using bonds index fund makes sense for me. I'm looking to be at a 70/20/10 equity/bonds/cash mix at the start of retirement.

I've shortlisted the following bonds index funds to consider to act as portfolio ballast and counter volatility:

• Aviva Pension MyM BlackRock Overseas Bond Index Tracker (0.16% total annual fees via my Aviva pension)
• Vanguard Global Bond Index Fund (0.31% total annual fees when purchased via Aviva's fund supermarket)

As I see it, the disadvantage with the Blackrock fund is that it excludes UK and not currency hedged. The lack of currency hedging is interesting as when I look back at it's performance in recent equity downturns it seems to rise as equities suddenly fall (Q4 2018 and March 2020) as a market jolt is typically accompanied by a flight to the USD and so GBP drops.

The Vanguard fund is much more of a steady plodder and is currently hedged so appears to hold it's own in a equity crash but not be affected by fx gains/losses.

JohnWinder

Not good enough a summary to elaborate that one minimises interest rate risk by having bond duration roughly equal to spending duration. That’s a big ask when the fund’s duration remains constant-ish, but your spending needs from bonds might have a deadline. But moving on, both those funds seem to have similar-ish durations, but the behaviour of an unhedged fund in relation to equities will depend on the correlation between equities and bonds (this goes through cycles of positive to negative and back over years to decades), as well as however currency exchange rates move (above my pay grade). I have no idea which would be a better choice, but commit to writing your reasons for your final choice so you have something to stick by when the stick shaker rattles.

GazzaBloom

JohnWinder said:

Not good enough a summary to elaborate that one minimises interest rate risk by having bond duration roughly equal to spending duration. That’s a big ask when the fund’s duration remains constant-ish, but your spending needs from bonds might have a deadline. But moving on, both those funds seem to have similar-ish durations, but the behaviour of an unhedged fund in relation to equities will depend on the correlation between equities and bonds (this goes through cycles of positive to negative and back over years to decades), as well as however currency exchange rates move (above my pay grade). I have no idea which would be a better choice, but commit to writing your reasons for your final choice so you have something to stick by when the stick shaker rattles.

Spend duration?, that's the rest of my life as I would plan to drawdown through retirement proportionally and rebalance annually back to 70/20/10

 I could buy both funds, or, buy neither and stick to equity/MMF.

JohnWinder

OK. It involves a lot of approximations and assumptions, so false precision is an alluring waste of time, but the idea is….Longer bonds should yield more, so get long ones. But they’re more volatile and may be well down in value when you need to cash some in, so get shorter ones. The compromise point (least interest rate risk) is when the bonds’ duration equals your spending duration. If you’ll spend all the bond money in one go in 10 years, the spending duration is 10 years; if you’ll trickle spend over 10 years it’ll be less than 10 years (roughly half of however many years you’ll be roughly equally cashing in each year). So 20 years of that spending has a duration of about 10 years.

Your funds are about 7 years duration which is close enough. When you get to 15 years from dying, move to a shorter duration fund or money market fund if you can be bothered.

https://www.financialwisdomforum.org/forum/viewtopic.php?t=119663&start=50