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Don’t Get Sucked Into the Bond Bubble
I hate to see retail investors buy bubble tops because they work so hard for their money, it’s a pity to see it all disappear like a puff of smoke. That is exactly what is happening with bond funds now.
We are near the top of a 28 year bull market in government bonds, and a piper has to be paid in the not too distant future. Yes, I know you have heard all of this before, with numerous advisors ringing the bell over our exploding national debt and the hyperinflation this is bound to bring. On this front, I have been just as guilty as the rest.
It’s time to face reality folks. So far the Cassandras in these pages have failed to deliver big time. Running record budget deficits, the US Treasury today can borrow all it wants at all time record low interest rates. Thirty year money at 4%? No problem. Unbelievable!
Last year, a staggering $375 billion poured into bond funds, a record, while $40 billion exited equity funds, despite a Dow that rose 23%. Many investors are suffering from a false sense of security that if they just hold bonds to maturity they will suffer no loss. If you are holding the bonds outright, which often come in $1 million round lots, this is true. But do you really want to hang around for 30 years?
And if you have your nest egg hiding in bond funds, you are running more risk than you realize. Funds have management fees and administrative costs that come out of your hide, which, if added up over several years, can amount to quite a bit of dough. When the market turns, individual funds may suffer liquidity problems.
If you are the typical individual investor with a 50:50 bond/equity split who has somehow stumbled across this letter, it’s time to make some adjustments to your portfolio and cut your risk. Here are four suggestions, ranked by a rising level of risk tolerance: 1) cut your bond holdings and increase you cash, 2) keep the same 50:50 ratio that lets you sleep at night, but shorten the bond duration from long to short term. That means selling ten and 30 year bonds and funds and buying those with three year maturities, 3) cut your bond exposure and increase your equity holdings.
Good candidates for this move would include the iShares Barclays 1-3 Year Treasury Bond ETF (SHY), and the PIMCO 1-3 Year U.S. Treasury Index Fund (TUZ).
For the most aggressive willing to make a leveraged short play, there is always option (4), the ProShares Ultra Short Lehman 20+ Year Treasury ETF (TBT), which is trading just above its 2009 lows. But if you get your timing wrong on this one, the cost of carry will eat you alive.
Don’t call me wrong, just early.
To see the data, charts, and graphs that support this research piece, as well as more iconoclastic and out-of-consensus analysis, please visit me at www.madhedgefundtrader.com . There, you will find the conventional wisdom mercilessly flailed and tortured daily, and my last two years of research reports available for free. You can also listen to me on Hedge Fund Radio by clicking on “This Week on Hedge Fund Radio” in the upper right corner of my home page.
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MHFT: discuss why your strats are better plays for a retail investor than, say, simply buying TIPS. I'm interested in your arguments vs. this baseline.
but...but..
in 1980....1981....1982..
I went to bonds at 14----15---16%
gold was at 850 what a load of crap.
so you say that was a bad move??
LOL
We have deflation right now. If you want to short treasuries go for it, but you will likely get smacked around. I also found it amusing that you mentioned, stocks were up 23% last year so buy, buy, buy. So what. CLO's and CDO's were up in value to, should I buy those to? Just because things go up you should not buy them, that is dumb. Look, long-term treasuries are a losers bet, but right now I think they make perfect sense. Technically they look good and if you are bearish they are the place to be. I have metals, treasuries and select holdings, very happy. I am covered for deflation, inflation and select situations, value plays that pay dividends.
I do agree about the shorter duration plays, but explaining duration to the average investor is pointless. Just buy short-term bond funds or intermediate-term, never buy long-term bond funds. Acutally, one should never buy bond funds at all, they should buy individuals. Only buy a fund if you want junk or convertables, IMHO. Run an illustration and take dividends off you will see every bond fund loses money without div reinvestment. In short, they suck.
Retail Investor Time-Line:
1999-Let's buy the New Paradigm: CSCO at 99999x earnings Sounds Good! 2001-Ouch; Never gonna touch those Tech Stocks again! 2005- Let's buy something that Never Goes Down and buy some Condos! 2008-Ouch;Never gonna touch Real-Estate again! 2009- Let's call the broker who sold me the CSCO and ask him: Bonds!?!?! Perfect, let's buy some! 20XX- Ouch; Never gonna touch those bonds again!
The Cycle continues...
This is some terrible advice. In fact the majority of your advice is terrible.
MHFT needs a public health warning for retail investors.
-and your sign off denotes your "out of consensus" analysis. LOL , youre kidding right? You couldnt be anymore consensus if you tried.
This guy is the new Vitaliy Katsenelson, your near daily dose of absurdist fiction.
I buy individual corporate bonds and ladder them- what I consider good risk/reward. Bought Smithfield Foods (SFD) yesterday on Fidelity, @ $99,
7.5% coupon 9-15-2013, that's 8% yield, they have a good bal sheet, do your dd.
Bought WCO- Wells Fargo Trust @ $26.40 6 weeks ago or so.7.5% yield
Bought WFC-J (WFC-PJ) Wells Preferred got under $26 this morning, good risk/reward 7.5% yield.
Don't need bond "funds"
Agree on not touching the Treasuries right now , but it's a different story in corporate bond land. Vanguard has some solid investment-grade funds for any retail investor, just make sure you keep things short to intermediate term.
also you were talking the head and shoulders formation, so that leve going into bonds. please make your story straight
tlt was just in a classic flag pattern and broke to the upside today. What can you do?
Those EURUSD bullish warnings have
strengthened further today.
Vice versa for the USD index of course.
It seems the current EURUSD downleg has ended.
http://stockmarket618.wordpress.com
Compare most short term bond funds, whether open end or etf, to the various equity indexes during 2007 - 2009. Short term funds held up quite well. Nothing's perfect, but these are an investment that is accessible to most people, and they won't have to sit at their desks and wait for news about when to trade.
Trade in growth/risk for capital preservation.
Finally, I'd stay away from super large funds (PIMCO). As good as they are, the sheer size leaves me worried. Eaton Vance is a good shop. Vanguard short and interm funds are decent for the retailer as well. I also agree with the author on the etfs he mentions.
Great new article and graph from Gordon T. Long, don't miss it....
The system is the problem (obviously...). Forget trying to save it and start reading H. H. Hoppe.
Thank you for the reference! And, yes, the system is the problem. Probably only a descent into anarchy and a rise from the ashes will correct it. Thanks for your view.
Don't get sucked into this bubble of blog drivel.
I've been following along here for months. Now seems as good a time as any for a new guy to weigh in.
I'm always amazed that the GNMA bond continues (even today) to be under most investors' radar. My favorite GNMA bond fund has the following attributes:
1. No load
2. Expense ratio of 0.13% (that's $130.00 annually on $100,000.00 invested.
3. As of January 2010 average duration was 3.5.
4. Current SEC yield about 3.15%
I've owned this conservative fund for decades. I hardly ever hear anyone involved in finance mention it. Must have something to do with that expense ratio.
GNMA isn't Freddie or Fannie. I'm curious as to what the more knowledgeable contributors here have to say.
Thanks for the most interesting site Tyler.
Mr. R
I checked this out- I have Fidelity & Ameritrade, Fidelity has a GNMA fund also- I decided I am buying at top of market, any rate increases will hurt, bigtime.
This has been a very nice investment for you, I'm sure, but there are risks to these investments under the surface.
You're dealing with residential mortgages here, and the reason for the low duration on this fund is due in large part to the decline in mortgage rates for the past 25 years, which fueled a wave of refinancing. With mortgage rates at extremely low levels and housing activity rather slow (conditions that will continue for some time), the prepayment rates are likely to slow which will lengthen your duration. Should the 10-year Treasury start a move higher, your duration will extend even further. Principal losses will result, and you'll be stuck with a yield that won't compensate you for the change in price. Duration on this fund can move from 3.5 to 7.5 pretty quickly, and you'll find yourself with a longer fund than you intended.
Not to say that all this will happen overnight, but the risk profile of this fund will change at some point, so I would suggest watching it closely.
mad hedge:
Why anyone would recommend TBT (ultra) over TBF (no ultra) is beyond me.
2x and 3x ETFs bleed on swings.
I think it's very unprofessional to even hint at holding an ultra as a long term strategy.
cut your bond exposure and increase your equity holdings
first part, yes, second part, huh?!?!?!
I have asked this of many investers, and have not received an answer. What (if anything) can a retiree who depends on the dividends of their bond funds for income, do to protect their wealth from being eaten up by inflation/hyperinflation?
If you are worried over inflation/hyperinflation (which is not a given, by any means,
but which you seem to want to hedge against) there are many things you can do.
First, agree on the obvious; if this comes to pass, you do not want to have money.
To show you the consequences of the above statement, consider the following.
What you want to have is fixed debt.
The reason is simple, you will be paying off this past debt with ever cheaper dollars.
(If you doubt the above, talk wth anybody that lived through Argentina's hyperinflation.)
Therefore, a fixed mortgage at today's rate is a play. In effect you are shorting the dollar.
Of course, there are many other strategies.
A more direct route is actully suggested in this post by hedgefund, short the Treasuries. Though use TBF and not an ultra.
It seems to me that what you need is to understand what you are asking, since many posts in ZH and elsewhere address your concerns.
gl
Muir, Thanks for the reply. I have considered mortgages. It seems like the best option that I can see at this point. Thanks again.
So, where to put the 401K money?? Gold is not an option in most plans. So, that leaves stock, or bonds.
Chinese Solar, of course.
Hey metastar,
One thing that seems left out here is that not all bond funds are the same. In most 401k plans, you can go conservative with a blend of Stable Value funds, money market funds, and short term bond funds. Also, short/intermediate term is okay.
This would dial down the risk on most portfolios a ton. It's not no risk, but then nothing is. not even physical gold. Though I like gold, what the fuck are the armageddonists going to do when teh Government places an edict that all gold has to be turned in, at the rate they choose?
Gold IRA with custodial possession by someone else (e.g. a gold vendor) is an option.
put it in money market fund and then wait ...
"So, where to put the 401K money?"
Take possession and buy physical.
early ... is wrong.
But Shilling, president of A. Gary Shilling & Co., is a charter member of the risk-off deflation camp and is positioned accordingly:
Leo ... Did you "flag as junk" yourself?
Crikey, that's my portfolio!! Except the "short stocks" part (too easily manipulated).