TLT considered harmful

[rickb]

We've edged around this on various threads.  I think it's time for a direct discussion.

Is TLT an appropriate holding for the PP?

Main argument for:

* It is pretty much the only fund/ETF which holds only 20+ year treasuries

Main argument against:

* It loans out the bonds it buys (>40% currently1, even though it claims no more than 1/3 of its assets will be loaned out2) for cash collateral which it invests in a Black Rock non-treasury backed MM1  (which is more than half3 short term loans to "too big to fail" banks like Morgan Stanley, Credit Suisse, JP Morgan, etc).  So even though the claim is TLT holds "only" 20+ year treasuries, it actually holds about 60% 20+ year treasuries and 40% IOUs backed by cash reinvested in its own MM, which in turn is more than half IOUs from TBTF banks backed by nothing.

In my book, what they're doing seems pretty darn close to fraud.  In a perfect storm (sharp downward spike in interest rates, or global economic system collapse like what was narrowly averted in late 2008), I think it's quite conceivable TLT investors could take up to a 20% haircut. 

1 See Semi Annual Report, pages 19 and 38

2 See Statement of Additional Information, page 8

3 See Holdings of SL Agency Fund

[smurff]

Besides directly  holding LT bonds, what other options are there?

[dualstow]

Interesting. I remember Harry Browne's excitement upon first hearing about TLT, but I don't recall the follow-up. I would never dare to speak for him, but it seems like the lending shenanigans perpetrated by BlackRock go against the whole pp philosophy. I still have some TLT, and if i ever have the chance to rebalance out of some bonds, I'll keep the real ones and jettison TLT. For now, I don't mind holding a bit of it.

[Pointedstick]

Besides directly  holding LT bonds, what other options are there?

EDV, TLO, BTTRX

[rickb]

Besides directly  holding LT bonds, what other options are there?

EDV, TLO, BTTRX

See http://gyroscopicinvesting.com/forum/ht ... ic.php?t=2, i.e.

TLT, VBLTX, EDV, VGLT, FLBIX, ZROZ, VUSTX, PRULX, FLBIX

[rickb]

Besides directly  holding LT bonds, what other options are there?

EDV, TLO, BTTRX

Here's the list from http://gyroscopicinvesting.com/forum/ht ... ic.php?t=2, i.e.

TLT, VBLTX, EDV, VGLT, FLBIX, ZROZ, VUSTX, PRULX, FLBIX

I haven't looked into any of these in as much detail as TLT.  VUSTX seems reasonably straight -  there's a small amount (6% or so) of US Government Agency debt, i.e. Fannie Mae and Freddie Mac, but nothing like the shenanigans TLT engages in.  Several in this list are zeroes rather than coupon bearing long term treasuries (at least EDV and ZROZ).

The main point here is that on close examination, TLT is not very similar to directly buying long term bonds.  If you can buy bonds directly, then definitely do so.  If you can't, look very closely at what you're buying instead.  Perhaps we should all look very closely at each of these and report what we find.

[MachineGhost]

Just to add to this topic, all of Schwab's ETF's do not return the profits made from lending out shares back to the fund as Vanguard does, so the expense ratios will likely be higher than stated.  That is semi-fraud as well.

[Tyler]

Thanks for starting this thread, rickb.  Great summary on TLT.  When you put it that succinctly, it really makes one question just how risk tolerant they are. 

Truthfully, I've been back and forth on the convenience/risk argument for TLT for a while now, and have argued both sides.  But the more I educate myself on the inner workings of wall st., the more I realize that direct treasuries really are the safer path (by far) that are likely worth the tiny amount of additional effort required to maintain them.  I'm still not sold on selling my SCHO, as the convenience/risk ratio there is still quite a bit higher, but am perhaps coming around even on that for a portion of my money. 

[clacy]

50% VFITX + 50% EDV moves lock stock with 100% TLT.  Rebalanced yearly, it was nearly identical (even had a slightly better sharpe and lower DD).

For those that aren't familiar, VFITX is Vanguard's intermediate treasury mutual fund and EDV is Vanguard's zero coupon treasury ETF.  EDV has some liquidity issues however.  Not too big of a concern for a treasury product though, IMO.

BTTRX is another good option, or maybe 40% VFITX + 60% BTTRX. 

[Xan]

50% VFITX + 50% EDV moves lock stock with 100% TLT.  Rebalanced yearly, it was nearly identical (even had a slightly better sharpe and lower DD).

Clacy, how far back did your analysis go?  Are we sure that this 50/50 split will behave like TLT, or has it happened to do so recently?  This is an intriguing idea and I would like to do it in my Vanguard account, if it works out.

[clacy]

I tested 01/29/08- to current, which was when EDV began trading.  I also tested it from 12/19/08- 04/06/10 which was peak to trough for treasuries after the big run up during the credit crisis and it beat 100% TLT slightly with a little out-performance, better sharpe and lower DD (albeit very close). 

From what I can tell a 50/50 split is negligible from 100% TLT however, with maybe a slight advantage picked up from rebalancing.

[clacy]

From the testing I've done, the same principal works with stocks too. 

I've tested 50% VWEHX (Vanguard junk bond fund) with 50% IJS (small cap value ETF) and blending a less volatile fund with a more volatile fund almost always wins across any time frame. 

It always produces a more favorable drawdown, sharpe and volatility.  Depending on the time frame it usually beats the pants off of 100% VTI in total return as well.

[goodasgold]

This is bad news about TLT's vulnerability. Just goes to show once again the PP book is correct in urging minimal exposure to counterparty risk.

In my case, the bond portion of my PP is invested 100% in a TLT traditional IRA.

It would be a pain to remove it and invest in other ETFs. Knowing what is known now, I would prefer to invest all of it via TD, but this is not possible for an IRA, according to my understanding.

Advice would be appreciated.

[Pointedstick]

goodasgold, you should be able to transfer your IRA to any other brokerage company. I did it a while back when I moved a Roth IRA from Scottrade to Vanguard.

If you're saying that the IRA itself is with BlackRock and consists of 100% TLT, you should still be able to do it, even if you have to go the roundabout way of liquidating the TLT position and transferring the resulting cash to a new IRA with another company.

[goodasgold]

Although shifting a traditional IRA from TLT to another ETF provider is workable, there is still the amount of research needed to ensure the new one isn't engaging in the same shenanigans as BlackRock.  Another minus is the possibility that a low-risk ETF will arbitrarily change its policy after you buy into it.

In order to buy LT treasurys from TD, I could liquidate a lot of I-bonds, but I would hate to do this, since some of mine are paying 1.2% over the inflation rate.

[Bean]

I am still not too worried. I guess in the scenarios we are talking about that would destroy TLT, would probably make my 25% of gold go parabolic.

[goodasgold]

I am still not too worried. I guess in the scenarios we are talking about that would destroy TLT, would probably make my 25% of gold go parabolic.

I'm not sure about this. In rickb's scenario, TLT's problematical MM investments could be compromised by a sudden drop in interest rates. Gold typically responds poorly to a drop in interest rates, such as during a recession.

[steve]

50% VFITX + 50% EDV moves lock stock with 100% TLT.  Rebalanced yearly, it was nearly identical (even had a slightly better sharpe and lower DD).

Clacy, how far back did your analysis go?  Are we sure that this 50/50 split will behave like TLT, or has it happened to do so recently?  This is an intriguing idea and I would like to do it in my Vanguard account, if it works out.

In my Vanguard taxable account I have VGLT/EDV 50/50 split or at least it started that way now its more like  46.55 VGLT/53.45 EDV after more then two years.

[KevinW]

There are different dimensions of risk here. There's the counterparty/shenanigan risk introduced by the fund sponsor, and there's the volatility risk introduced by using something other than 25-30 year nominal treasury bonds. IMO, bond alternatives listed from riskiest to safest:

- not investing in a PP
- one-fund PP (PRPFX or PERM)
- DIY PP with something other than true long term nominal bonds (e.g. BND or EDV)
- fund that holds bonds to maturity instead of selling them early (e.g. Vanguard or Fidelity's mutual funds)
- TLT
- individual 25-30 year bonds

Yes, BlackRock is doing problematic stuff with some of TLT's assets, which *might* cause problems down the road. However if change the asset allocation away from true long-term treasury bonds, you will *certainly* have something that works differently, and probably less safely, than a vanilla PP. Individual bonds are best, absolutely. But if those are not an option for whatever reason, IMO a fund that holds only long-duration nominal treasury bonds is best, and right now TLT is the only one that exists.

[Ad Orientem]

TLT, VBLTX, EDV, VGLT, FLBIX, ZROZ, VUSTX, PRULX, FLBIX

I just did some quick checking and every one of those funds deviates to varying degrees from the ideal of holding 20-30 yr Treasuries. Of those listed TLT comes pretty close but it does have the risk factors that RickB raised and which he pointed out to me in another thread dealing with cash options. It is troublesome but I guess you have to ask what the realistic risk is and how much of a hit could you take if TLT blew up? Then you need to weigh that against the convenience factor.

After looking at the other funds I think they fail to meet minimum standards for the LTT component of a PP. So for now my view is it's either TLT with its admitted shortcomings or direct ownership of your LTTs.

[MachineGhost]

It doesn't matter whether its TLT, EDV, or some other intermediate bond as long as the combined duration of that and your cash is equivalent to the current average AAA corp bond new issue.  With that, you can utilize whatever etf structure you feel safest with and can ignore targeting any specific maturity amounts.

Um, why?

[Khisanth]

I'm out of TLT today, and I will be purchasing the next 30 year bonds at auction next week May 9 2013. I talked to the bond desk at Vanguard and already have my order in.

+ Reduce that 0.15% expense ratio to Zero
+ Stop lending my assets to the big banks
+ Diversify out of iShares (I also have IAU)

[Bean]

I thought Vanguard charged some fees?  Is that not the case?

[Khisanth]

https://personal.vanguard.com/us/whatwe ... ommissions

For US bond auctions it looks like No commission.
For secondary market bond purchases it seems like it could get pricey.

[Reub]

What happened to Slotine?