Which Index funds to invest in?

aroominyork

michael1234 said:

InvesterJones said:

michael1234 said:

chiang_mai said:

michael1234 said:

I'm probably talking rubbish as usual but presumably whilst money market funds are more stable than government bonds, if interest rates go down the return on mmf goes down but bond yields will go up because the coupon remains what it was.

I await a suitably pompous reply from someone telling me I'm wrong (which is fine as at least I'll know )

Money market rates tend to be short term and not stable over time, they vary according to the BOE overnight rate (SONIA) which is a function of the base rate and the state of the eocnonmy at the time. On the other hand, Government Bond yields (or coupon rate), or Gilts as they are typically known, are fixed rate, from the moment they are purchased but their value will vary based on whether rates are falling or rising....a bond yield moves inversly to the bonds value. 

By "stable" I guess I meant the fact that in the UK at least, they have to remain identical for at least one month but often for many months or years. Bond price change daily based on confidence of the market in the government to repay.

Then I think you're misunderstanding. Money market funds do not remain identical - they invest in short term instruments that reflect changes in the underlying lending rate within days. A bond on the other hand is fixed at the moment you buy it for the life of the bond (as long as you hold it that long).

Example MMF: (almost a straight line)
https://www.hl.co.uk/funds/fund-discounts,-prices--and--factsheets/search-results/r/royal-london-short-term-money-market-class-y-accumulation/charts

Example government bond: (not almost a straight line)
https://www.hl.co.uk/shares/shares-search-results/t/treasury-0.25-31072031-gilt

I agree with you that the market price of MMFs is more predictable than gilts. But you are not comparing like with like: MMFs hold instrument that mature in say a month; you posted a chart that showed TG31 that matures in six years. If you had posted the last month's performance of TY25 maturing this month, it would also be predictable as it hones in on par.

chiang_mai

As was said above, this is about comparing like for like. The Gilt yield will vary, but not on bonds once purchased, an act that locks in the yield or coupon rate. The MM rate will also vary but based on predictable events, eg, BOE rate changes. 

OldScientist

chiang_mai said:

As was said above, this is about comparing like for like. The Gilt yield will vary, but not on bonds once purchased, an act that locks in the yield or coupon rate. The MM rate will also vary but based on predictable events, eg, BOE rate changes. 

You're not wrong, but to be clear (and very pedantic) buying an individual gilt that is then held to maturity will lock in known cash flows, i.e., coupons and the par value at maturity.

It will not lock in a total return, since coupons need to be reinvested and the price (and yield) at which that is done is unknown in advance. For small coupon gilts, the effect on total return of coupon reinvestment is relatively small and vice versa for larger coupons.

On the other hand, if coupons are to be used as income, the price return of the initial purchase held to maturity is known in advance, i.e., 100/<price paid>

As for changes in rates for MMF, they tend to be gradual (the time taken to reflect changes depending on the maturity of whatever is held), e.g., the following graph shows the NAV for the RL MMF (acc) fund. The gradient gives the rate and this gradually steepened as the bank rate, 3 month treasury bill rates and short term commercial rates all increased from early 2022 onwards. It is also why looking at yield to maturity (forward looking) and not distribution yield (backward looking) is important.



It is also worth noting that the NAV actually fell between July 2020 and the end of 2021 (the bank rate of 0.1% less OCF was around zero or slightly negative, while the SONIA rate was even lower at 0.05%).

chiang_mai

OldScientist said:

You're not wrong, but to be clear (and very pedantic) buying an individual gilt that is then held to maturity will lock in known cash flows, i.e., coupons and the par value at maturity.

It will not lock in a total return, since coupons need to be reinvested and the price (and yield) at which that is done is unknown in advance. For small coupon gilts, the effect on total return of coupon reinvestment is relatively small and vice versa for larger coupons.

On the other hand, if coupons are to be used as income, the price return of the initial purchase held to maturity is known in advance, i.e., 100/<price paid>

As for changes in rates for MMF, they tend to be gradual (the time taken to reflect changes depending on the maturity of whatever is held), e.g., the following graph shows the NAV for the RL MMF (acc) fund. The gradient gives the rate and this gradually steepened as the bank rate, 3 month treasury bill rates and short term commercial rates all increased from early 2022 onwards. It is also why looking at yield to maturity (forward looking) and not distribution yield (backward looking) is important.

It is also worth noting that the NAV actually fell between July 2020 and the end of 2021 (the bank rate of 0.1% less OCF was around zero or slightly negative, while the SONIA rate was even lower at 0.05%).

Thank you for that, I enjoyed reading your explanation very much. It isn't pedantic, it's very useful to understand.

chiang_mai

I currently hold the L&G US Index, the HSBC FTSE All Share Index and am considering the L&G Europe Index. I also hold managed funds that cover EM, Asia and China as well as one that covers the UK and one that covers Japan. I considered using a global tracker but decided against it. I like the idea of using trackers and/or managed funds to suit specific purposes and that trackers and managed funds can sometimes support each other. For example, the Artemis Smartgarp UK fund is very good but at 89 companies and heavy on Fin Services,, it's a narrow view of the UK market hence the HSBC UK Index fund supports it nicely.  For me it's a mix and match scenario, based on the different markets and based on managed funds that you want to hold. A global tracker may be ideal for some but it leaves me feeling I'm inversting in areas that I otherwise wouldn't chose to invest in and leaves me at risk of being forced to take the long ride down, when markets fall (without the time to recovery).