Maximum Bond Upside

Discussion of the Bond portion of the Permanent Portfolio

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Kriegsspiel
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Re: Maximum Bond Upside

Post by Kriegsspiel » Tue Feb 09, 2016 7:10 am

If the yield on 30 year bonds is negative, how much more negative would the yield on cash be? How would you know we wouldn't have negative yields for years? You might lose out on not losing money while rates are negative.
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Re: Maximum Bond Upside

Post by Lang » Tue Feb 09, 2016 7:12 am

Well, in Switzerland the 30 year rate is currently 0.25%, while the cash rate is -0.75%, so that's a 1% differential.
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Re: Maximum Bond Upside

Post by dualstow » Tue Feb 09, 2016 8:12 am

ochotona wrote:
dualstow wrote: Craig, your comments make sense to me, but they also make me want to sell my bonds "too soon."
~
If we get into negative long interest rate territory, and it suddenly starts to get less negative, and the price of TLT or TLO crosses back under its 10 or 12 month moving average, you'll know it's time to get out, and you'd better not delay at that point.
I'm just not a moving avg kind of guy, ocho. However, but when the author of the Permanent Portfolio update says he would personally sell his bonds if rates went negative, it definitely gives me pause.
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If the yield on 30 year bonds is negative, how much more negative would the yield on cash be? How would you know we wouldn't have negative yields for years? You might lose out on not losing money while rates are negative.
We don't know. But while bad yields suck, I could sleep at night vs wondering when the value of my holdings would be cut in half or even decimated.

I love long bonds because they do their job in the portfolio, but they are also the asset I feel queasiest about. The only thing that bugs me about gold is the markup and the anguish of transporting it physically in a city of thieves. The only thing that worries me about gold is the longshot probability that we will synthesize gold or mine it from an asteroid. That certainly doesn't keep me up at night.

The fact that we're supposed to sell bonds when they have twenty years left on them regardless of their value or what share of the pp they make up- that bothers me.

So as rates go downward, I've been hanging on to MT's metaphor about a game of tennis becoming a game of ping pong. It's just that every time I don't sell when TLT rises above 130, I feel regret when it comes back down.

Well, I'm not selling today. I'll just grin and bear it for now. The rise in bond value may turn out to be what keeps the pp's overall value up.
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Re: Maximum Bond Upside

Post by Austen Heller » Tue Feb 09, 2016 1:30 pm

It is interesting that people have different risk tolerance levels for bond yields, much like Bogleheads have different risk tolerance levels for stocks.  Some Bogleheads use 'age in bonds', or 'age-10' or just '60:40' stocks:bonds.  There is no right answer, it just depends on the individual.  However, with the PP, you are expected to be 25% long bonds, there is no alternative, or else you don't have a PP.

For myself, I bailed out of the long-term bonds back in 2014, when rates were around 3%, because I could not justify owning them at yields below that level, in spite of the fact that there is further upside potential as the rates drop.  3% is my 'magic number'.  For craigr, it sounds like 1% is his number, and I'm sure others don't have a number, they will hold the bonds no matter what.  If you have a 'magic number', what is your plan when the yields get there?

When I bailed out of the long-bonds, I combined the cash and LT bond positions into a one big position in short-to-intermediate bonds, with maturity around 2-5 years.  This is the steepest part of the yield curve, so there is some capital gains benefits as the bonds get closer to maturity (riding the yield curve).  So, if LT bond yields get below your 'magic number', consider this alternative approach.
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Re: Maximum Bond Upside

Post by goodasgold » Tue Feb 09, 2016 2:13 pm

bedraggled wrote: Craig,  MT,
Treasury Direct may be easier but, as was said about TLT being a bunch of "1"s and "0"s recently, not the safest route.
Personally, I have had no problems with TD, but other people have.

But I do worry about some hackers in Russia, China or  ______  breaking into the TD system and sending my LTTs to a post office box in Nigeria. It seems that no computer system is safe nowadays, no matter how complex the security. And there is always the danger of an inside job, too. The NY Times recently had an article on a major upsurge in bank fraud carried out by crooked bank tellers with access to their employers' online system.
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Re: Maximum Bond Upside

Post by Kriegsspiel » Tue Feb 09, 2016 3:22 pm

Austen Heller wrote: It is interesting that people have different risk tolerance levels for bond yields, much like Bogleheads have different risk tolerance levels for stocks.  Some Bogleheads use 'age in bonds', or 'age-10' or just '60:40' stocks:bonds.  There is no right answer, it just depends on the individual.  However, with the PP, you are expected to be 25% long bonds, there is no alternative, or else you don't have a PP.

For myself, I bailed out of the long-term bonds back in 2014, when rates were around 3%, because I could not justify owning them at yields below that level, in spite of the fact that there is further upside potential as the rates drop.  3% is my 'magic number'.  For craigr, it sounds like 1% is his number, and I'm sure others don't have a number, they will hold the bonds no matter what.  If you have a 'magic number', what is your plan when the yields get there?

When I bailed out of the long-bonds, I combined the cash and LT bond positions into a one big position in short-to-intermediate bonds, with maturity around 2-5 years.  This is the steepest part of the yield curve, so there is some capital gains benefits as the bonds get closer to maturity (riding the yield curve).  So, if LT bond yields get below your 'magic number', consider this alternative approach.
So if yields on bonds went negative, you'd still own 50% bills, costing you even more to hold them?

I don't know man, I'd think that there isn't really any point in owning negative yield assets. Why not just own gold and stocks at that point, and wait until yields get back above 0?
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Re: Maximum Bond Upside

Post by craigr » Tue Feb 09, 2016 6:31 pm

Well yes I suppose there is a number for everyone. The bond number for me is 1% for sure. At that point I don't want them anymore. Under 2% I'm probably not buying them as a new investor, but if I already have them I'm not selling until 1% or so.

This is all highly subjective. But with bonds you kind of know what you're getting in terms of valuation. Stock P/E can change rapidly for a variety of reasons, but a long bond paying 0.50% is pretty much a known bad deal by most any measure I can come up with.

In terms of the Permanent Portfolio I know this would break the model, but sometimes dogma needs to step aside for reality. That reality for me is risk vs. reward for the bonds and the fact that at 1% it's just too rich for my blood and I'll go very short on the yield curve until they recover. But this of course puts investors in the unfortunate situation of asking: "When do I get back in?" And that I don't have an answer for yet. I'll cross that bridge if I'm forced to part ways with my bonds.
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Re: Maximum Bond Upside

Post by Austen Heller » Tue Feb 09, 2016 8:55 pm

Kriegsspiel wrote: So if yields on bonds went negative, you'd still own 50% bills, costing you even more to hold them?

I don't know man, I'd think that there isn't really any point in owning negative yield assets. Why not just own gold and stocks at that point, and wait until yields get back above 0?
craigr wrote: In terms of the Permanent Portfolio I know this would break the model, but sometimes dogma needs to step aside for reality. That reality for me is risk vs. reward for the bonds and the fact that at 1% it's just too rich for my blood and I'll go very short on the yield curve until they recover.
As yields plummet, we will be faced with some tough questions.  If the yields are negative out to say, 10 years, as they are now in Japan, then it makes no sense as an individual investor to own them.  Then what do you do with your money?  I guess I would have to look at bank savings accounts or CDs, even though I'm leery of the FDIC.  Maybe by then, stocks will be so beaten down that they will seem like a great deal.

Even now, the 5-year US treasury is getting close to 1% (down from near 2% just a month ago), and it went as low as 0.5% just a few years ago.  My current plans to have a rolling ladder between out to 5 years would have to be re-thought as the yields get lower.

You can already feel the investor angst as yields are getting crazy low in Europe, best summarized in this post:
Pfanni wrote: The fundamental issue with the EUR 30yr bonds 1% yield is this:
Does it reflect the market's view?
Is it a true market event or a central bank scam?

The answer should be clear.
It is not market participants buying deflation protection.
It is the central bank buying these bonds to the tune of 50 billion / month.

It is a scam. A farce. A hustle. A lie.
And I for one am not gonna be the bag holder.
http://gyroscopicinvesting.com/forum/pe ... #msg141005
Last edited by Austen Heller on Tue Feb 09, 2016 9:00 pm, edited 1 time in total.
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Re: Maximum Bond Upside

Post by ochotona » Tue Feb 09, 2016 9:00 pm

If the risk free rate is -1%, then a -0.5% yielding investment is better than the risk free rate? But who would invest in a -0.5% yielding investment? I can't get my head around any of it. Risk and reward would be gone. I think it would create more risk aversion, not less!

People can't see in the dark. A candle helps. 100,000 candlepower straight to your retina give you amazing sight, then! The logic kills me.
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Re: Maximum Bond Upside

Post by craigr » Tue Feb 09, 2016 11:08 pm

Austen Heller wrote: You can already feel the investor angst as yields are getting crazy low in Europe, best summarized in this post:
Pfanni wrote: The fundamental issue with the EUR 30yr bonds 1% yield is this:
Does it reflect the market's view?
Is it a true market event or a central bank scam?

The answer should be clear.
It is not market participants buying deflation protection.
It is the central bank buying these bonds to the tune of 50 billion / month.

It is a scam. A farce. A hustle. A lie.
And I for one am not gonna be the bag holder.
http://gyroscopicinvesting.com/forum/pe ... #msg141005
Well certainly Pfanni has it right that central banks are a large cause of the problem. This is why I hold gold for when they blow everything up again.

Quantitative Easing was always a stupid idea. You can't make people spend money they don't have and governments spending money on their behalf is equally dumb.

Problem is a negative yielding bond is such a bad option on so many fronts that holding cash with a slightly worse negative yield is probably the best of the worst options.
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Re: Maximum Bond Upside

Post by barrett » Wed Feb 10, 2016 11:13 am

I have to say that I am really happy to see super-low long-bond rates being discussed. In my mind I always think of this conundrum as "Pfanni's Dilemma" because he has been asking for feedback and not getting much. I know that belgo also had some related questions recently.

FWIW, I am also in the extra cash camp. As far as when to buy back in when/if rates rise, obviously that's an individual call, but I think we have to use our brains and, as Craig has stated, not rely on dogma. Right now with the rate on 30-year US debt being relatively high compared to what we see in Japan and Europe, I think we can reasonably guess that a further decline in rates here in the US is quite possible.

Lastly, I would probably go with a stutter-step approach somewhere between 2% and 1% and just hold fewer long bonds... not eliminate them altogether. Still pondering this though.
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Re: Maximum Bond Upside

Post by dualstow » Wed Feb 10, 2016 11:27 am

Good post, barrett.
TLT is at 132.xy by the way. What's the highest it has ever gone? 135-140?
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Re: Maximum Bond Upside

Post by stuper1 » Wed Feb 10, 2016 11:43 am

Also, what would TLT be at if the long bond rate were at 1%?
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Re: Maximum Bond Upside

Post by Austen Heller » Wed Feb 10, 2016 12:29 pm

dualstow wrote: TLT is at 132.xy by the way. What's the highest it has ever gone? 135-140?
Google Finance shows that it made it up above 138 in the week of Jan 30, 2015.
stuper1 wrote: Also, what would TLT be at if the long bond rate were at 1%?
This isn't perfect, but using these current inputs:
TLT price 132, avg maturity 26.5 years, avg yield 2.38%
If yield falls to 1%, then price will be 174, an increase of 31.8% from today's price.
Holding long bonds at such low yields is like climbing Mt. Everest:  If you have the fortitude to make it to the peak, don't hang around for too long admiring the view!

Image
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Re: Maximum Bond Upside

Post by stuper1 » Wed Feb 10, 2016 12:45 pm

I like the Mt. Everest analogy.

I also like the 35% rebalance band, which keeps me from having to rely on skill and fortitude.

Here's a question that's been discussed before.  If long bond yields are below a certain percentage (say X percent) and we hit a 15/35 rebalance band on any asset, instead of rebalancing to 4 x 25, should we put less than 25% into long bonds (say Y percent)? 

What values of X and Y do people on this forum like?  If Y is less than 25%, where does the remainder go?  Cash, or an even split between cash/stocks/gold, or what?
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Re: Maximum Bond Upside

Post by barrett » Wed Feb 10, 2016 12:49 pm

Thanks for posting that, AH. My take on the numbers you posted is that it's a dramatic move in bond yields that doesn't lift the overall PP by very much... roughly 8% if all else remains unchanged. This takes us back to MG's original question as to whether or not there is enough juice remaining in LTTs to really lift the entire portfolio.

Of course, when times are rough, breaking even - or even losing a bit - is fine. Sometimes it's a big plus to be able to stay invested and not get hammered.

I remember Sophie referencing a thread on this topic a couple of years ago. The question was essentially "When to dump long bonds?" Anyone know where that thread is? It would be interesting if the current answer jives with what folks felt a few years back.
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Re: Maximum Bond Upside

Post by dualstow » Wed Feb 10, 2016 12:59 pm

Austen Heller wrote: Holding long bonds at such low yields is like climbing Mt. Everest:  If you have the fortitude to make it to the peak, don't hang around for too long admiring the view!
http://i65.tinypic.com/301k26p.jpg
Indeed! Thanks for that. Yeah, 138 sounds familiar.
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Re: Maximum Bond Upside

Post by BearBones » Wed Feb 10, 2016 8:36 pm

So pardon if this is totally ignorant. But where is my logic flawed below?

So if treasuries are turning negative, doesn't this mean severe deflation? Where else to move the money? Stocks, real estate, gold are all losing value vs the currency. The value of virtually everything you own plummets so everyone flees to cash, right? But if cash at everything from banks to Treasury Direct is yielding -1 to -2 (still better than owing other assets), wouldn't a 30 year TB of +1ish look pretty damn good?

I think that the flaw may be in the current environment may be and aberration of QE where central banks are forcing the rates lower to prevent deflation. Basically forcing everyone out of cash and safe investments to prop up sick markets.
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Re: Maximum Bond Upside

Post by Austen Heller » Wed Feb 10, 2016 9:29 pm

BearBones wrote: But if cash at everything from banks to Treasury Direct is yielding -1 to -2 (still better than owing other assets), wouldn't a 30 year TB of +1ish look pretty damn good?
You are right, cash at -1% is no good.  That is when I will be be turning to the Nickel Plan.  A regular nickel weighs 5 grams, which is the highest weight:value ratio of any coin.  So if you figure that 1 pound of nickels = $4.53592, then 1 ton of nickels = $9071.  Every time I need to protect another $9071, just go out and get a ton of nickels.  Of course, you do this piece by piece, not all at once.  Once your basement is full of nickels, you are set.  No need to worry about theft either, it will be too heavy.

Kyle Bass tried this a few years ago, but back then it made even more sense, since the nickel's melt value was higher than 5 cents; this is no longer the case (current melt value is about 2.6 cents).

http://www.businessinsider.com/why-kyle ... ls-2011-11

Of course, by the time that the proles have figured out that they should hang onto coinage, President Sanders will have already outlawed physical cash, just like Sweden.
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Re: Maximum Bond Upside

Post by BearBones » Thu Feb 11, 2016 7:16 am

Austen Heller wrote: You are right, cash at -1% is no good.  That is when I will be be turning to the Nickel Plan... Once your basement is full of nickels, you are set...

Kyle Bass tried this a few years ago, but back then it made even more sense, since the nickel's melt value was higher than 5 cents; this is no longer the case (current melt value is about 2.6 cents)...
But if low or negative yields of cash and bonds are due to deflation, metals and other hard assets will continue to lose value rather than preserve or gain, right?
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Re: Maximum Bond Upside

Post by Lang » Thu Feb 11, 2016 8:58 am

Perhaps looking for a profitable investment (with a good risk/reward) in a deflationary environment is asking too much. The value of your money increases every year even without investing it in anything.
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Re: Maximum Bond Upside

Post by dualstow » Thu Feb 11, 2016 9:33 am

Desert wrote: That's beautiful.  But I am still bitter over the drop in nickel prices.  I began hoarding nickels a few years ago, and now my (admittedly small) stash serves only as a pathetic reminder of the crushing cycles in commodity prices. 

But one day, the price of nickel will recover.  And then ... then, my friends, who will be laughing...  you will all be my slaves on that glorious day.
Wow, I forgot about that. I started saving my nickels because of Paul Boyer, the Mad Money Machine guy who eventually did go mad and devote everything to Bitcoin. I think some maintenance men may have dipped into my stash when we were temporarily in an apartment, but I have a nice cigar box of nickels left.
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Re: Maximum Bond Upside

Post by Lang » Thu Feb 11, 2016 2:15 pm

Switzerland's 50 year bond now only yields 0.31, a record low. Also, all of its bonds up to 17 year maturity have negative yields.
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Re: Maximum Bond Upside

Post by craigr » Thu Feb 11, 2016 2:48 pm

Lang wrote: Perhaps looking for a profitable investment (with a good risk/reward) in a deflationary environment is asking too much. The value of your money increases every year even without investing it in anything.
Yes. You might just have to hold tight. Dividends from stocks will provide some income that could go a lot further under bad deflation. But in a bad depression situation, it's more about losing less than making big profits.
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Re: Maximum Bond Upside

Post by portart » Thu Feb 11, 2016 6:21 pm

Today I looked at the chart of TLT, at all time highs...Soooo, I sold it all, took the cash and will sit and wait for a nice correction. For once I sold high.. any thoughts? I am out of balance now in my PP but, at all time highs in my acct. I won't feel too bad if it keeps raging.
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