What if you sold and reinvested the proceeds in a new bond with a 5% coupon and a comparable maturity date? Your return would be the same. Selling the bond to buy a higher-yielding bond has no economic benefit because the higher interest rate on the new bond would be offset by the capital loss on the old bond.
This is not guaranteed to be the case. Bonds trade in a secondary market, no different than stocks. For the point to be valid, relies on the notion that markets are efficient. In a market where the trading is quite thin with poor liquidity, it is certainly not efficient. Many of the other points in the article are similarly off the mark, making broad statements about investing in individual bonds which are simply untrue. From what's taken place over the past few years with interest rates and bonds, bond fund investors have still not recovered. My portfolio of bonds has been making new highs since October.
As someone who has a 1/99 AA heavily invested in individual municipal bonds, I take great exception with most every point raised in this article. The author makes assumptions on most points, apparently without having any personal first-hand experience. On the other hand, I do have significant first hand experience, and have outperformed VBTLX (as well as Bloomberg Municipal Bond Index) by a wide margin over any time period you'd like to compare - YTD, 1 year, 3 years, 5 years, 10 years.
While holders of individual bonds know their bond’s nominal value at maturity, they don’t know the inflation-adjusted value, unless they buy inflation-indexed bonds.
That's an odd point to make - because a bond fund holder certainly doesn't know her inflation-adjusted value at any point in the future either.
On top of all that, when ordinary investors buy individual bonds, they’re often charged huge markups, though you can sidestep this problem by purchasing new issues. A bond fund, meanwhile, should benefit from institutional pricing. Funds are also easier to buy and sell, plus you can reinvest your fund distributions in additional fund shares, no matter how small those distributions are.
When "ordinary investors" buy individual bonds and don't understand what they're doing, they may in fact be charged huge markups. That's because they don't understand what they are doing, and how not to overpay. Huge markups take place because investors accept them or aren't aware of them. There is no requirement to accept a huge markup. Every trade is publicly recorded. When I am purchasing a municipal bond, I know exactly what the dealer who I'm buying it from paid. I offer what I am willing to pay. The dealer can accept it, or watch that bid sit there while he sits on the bond in his inventory. Eventually, after playing cat and mouse for some time, I raise my bid, the dealer lowers his ask, we agree on a price and I purchase. If not, I move on as there are many other fish in the sea. If the dealer has been unable to find a buyer for the bond, has been sitting on it for a few weeks or months, and interest rates have risen, when I buy that bond, the dealer is going to take a loss on it - I am not paying any mark up, aside from the $1/bond I pay my broker in commission. I am paying what I determine fair value is.
The bond fund "should" benefit from institutional pricing? You don't know this for sure, do you? I will tell you that from personal experience, as a retail investor, I generally pay less than the institution. There are a number of reasons why this is the case. I have the data to show it, and I know it at the time I make my purchases. Again, folks who buy without knowing what they are doing certainly will pay more.
Absolutely, funds are easier to buy and sell plus reinvest dividends - if that is something that you want. Me, I like receiving the interest payments and principal payouts and then having the ability to purchase additional bonds.
I know what I am doing, and that's why I do what I do. The greater certainty offered by individual bonds is not something of an illusion whatsoever. However, the more folks who actually believe this, and simply throw their money into bond funds, the better, as it will keep more retail investors out of the (municipal) bond market and not bring additional competition for me.
So, today, how many folks are piling in and buying the major energy players like Exxon? Are they not blind seeing that now is "high" and the time to be selling?
I Bonds are a gift at this time. Max out your annual purchases for you/spouse/kids. We'll see someone pop up complaining that they only keep you at zero real return, but you're not going to find anything better with no risk. You are way, way ahead with I Bonds over CDs. On Monday, coming 6 months rate will be announced and it is highly likely to be 7.12% - from a government-backed security, and interest free from state taxes. Again, nothing is going to beat that for no risk.
I believe your statements and justifications for not owning bonds, or when to own bonds is no different than any Wall Street shill talking his book. Your way is the best way, right? Wrong. Own bonds for short term needs, say within 5 years? No, that is the time frame for which you keep your money as cash! I believe you also have a fundamental misunderstanding of how bonds work...as do many folks who poo-poo them. Being someone who doesn't own bonds and never will, this is not surprising. When I buy a bond (not a bond fund), I have absolutely no concern for what the price of that bond will be in the future - regardless of what interest rates do. Why? For the basic reason that my intent is to hold until maturity - on the maturity date I will collect 100.0. No matter what price I buy at, no matter what the market price is tomorrow or the next day, at maturity (or the call date if applicable) my bond will be redeemed for 100.0. When I buy, I know absolutely everything - I know when I will get my money back, I know when I will be paid interest, and I know what my return on investment is...the moment I hit that buy button. And that is why you own bonds - for certainty. Why would I care if the price of the bond in the market goes down? I'm not selling, and don't have to. What's the issue, maybe I see the bottom line on my portfolio go down for the time being? Who cares? The future value is guaranteed. If the price of bonds go down, well, that may be telling me it's time to buy more...for even higher yields. On the flip side, if the price of my bonds go higher (as we have happening these days), well, then that changes things, because now my return on investment (for my holding period) has gone higher if I choose to sell. When people become very wealthy and are looking for safe places for their money, when they have enough that their investment objective turns to capital preservation, do you think they are 100% in equities? LOL - of course not. They gravitate to municipal bonds (not municipal bond funds). Take a step outside your comfort zone and go learn why.
Comments
Post: Certain but Risky
Link to comment from March 2, 2024
As someone who has a 1/99 AA heavily invested in individual municipal bonds, I take great exception with most every point raised in this article. The author makes assumptions on most points, apparently without having any personal first-hand experience. On the other hand, I do have significant first hand experience, and have outperformed VBTLX (as well as Bloomberg Municipal Bond Index) by a wide margin over any time period you'd like to compare - YTD, 1 year, 3 years, 5 years, 10 years.
That's an odd point to make - because a bond fund holder certainly doesn't know her inflation-adjusted value at any point in the future either.- When "ordinary investors" buy individual bonds and don't understand what they're doing, they may in fact be charged huge markups. That's because they don't understand what they are doing, and how not to overpay. Huge markups take place because investors accept them or aren't aware of them. There is no requirement to accept a huge markup. Every trade is publicly recorded. When I am purchasing a municipal bond, I know exactly what the dealer who I'm buying it from paid. I offer what I am willing to pay. The dealer can accept it, or watch that bid sit there while he sits on the bond in his inventory. Eventually, after playing cat and mouse for some time, I raise my bid, the dealer lowers his ask, we agree on a price and I purchase. If not, I move on as there are many other fish in the sea. If the dealer has been unable to find a buyer for the bond, has been sitting on it for a few weeks or months, and interest rates have risen, when I buy that bond, the dealer is going to take a loss on it - I am not paying any mark up, aside from the $1/bond I pay my broker in commission. I am paying what I determine fair value is.
- The bond fund "should" benefit from institutional pricing? You don't know this for sure, do you? I will tell you that from personal experience, as a retail investor, I generally pay less than the institution. There are a number of reasons why this is the case. I have the data to show it, and I know it at the time I make my purchases. Again, folks who buy without knowing what they are doing certainly will pay more.
- Absolutely, funds are easier to buy and sell plus reinvest dividends - if that is something that you want. Me, I like receiving the interest payments and principal payouts and then having the ability to purchase additional bonds.
I know what I am doing, and that's why I do what I do. The greater certainty offered by individual bonds is not something of an illusion whatsoever. However, the more folks who actually believe this, and simply throw their money into bond funds, the better, as it will keep more retail investors out of the (municipal) bond market and not bring additional competition for me.Post: Bonds or Bond Funds?
Link to comment from March 2, 2024
So, today, how many folks are piling in and buying the major energy players like Exxon? Are they not blind seeing that now is "high" and the time to be selling?
Post: Hard to Follow
Link to comment from May 28, 2022
I Bonds are a gift at this time. Max out your annual purchases for you/spouse/kids. We'll see someone pop up complaining that they only keep you at zero real return, but you're not going to find anything better with no risk. You are way, way ahead with I Bonds over CDs. On Monday, coming 6 months rate will be announced and it is highly likely to be 7.12% - from a government-backed security, and interest free from state taxes. Again, nothing is going to beat that for no risk.
Post: No Bonds for Me
Link to comment from October 30, 2021
I believe your statements and justifications for not owning bonds, or when to own bonds is no different than any Wall Street shill talking his book. Your way is the best way, right? Wrong. Own bonds for short term needs, say within 5 years? No, that is the time frame for which you keep your money as cash! I believe you also have a fundamental misunderstanding of how bonds work...as do many folks who poo-poo them. Being someone who doesn't own bonds and never will, this is not surprising. When I buy a bond (not a bond fund), I have absolutely no concern for what the price of that bond will be in the future - regardless of what interest rates do. Why? For the basic reason that my intent is to hold until maturity - on the maturity date I will collect 100.0. No matter what price I buy at, no matter what the market price is tomorrow or the next day, at maturity (or the call date if applicable) my bond will be redeemed for 100.0. When I buy, I know absolutely everything - I know when I will get my money back, I know when I will be paid interest, and I know what my return on investment is...the moment I hit that buy button. And that is why you own bonds - for certainty. Why would I care if the price of the bond in the market goes down? I'm not selling, and don't have to. What's the issue, maybe I see the bottom line on my portfolio go down for the time being? Who cares? The future value is guaranteed. If the price of bonds go down, well, that may be telling me it's time to buy more...for even higher yields. On the flip side, if the price of my bonds go higher (as we have happening these days), well, then that changes things, because now my return on investment (for my holding period) has gone higher if I choose to sell. When people become very wealthy and are looking for safe places for their money, when they have enough that their investment objective turns to capital preservation, do you think they are 100% in equities? LOL - of course not. They gravitate to municipal bonds (not municipal bond funds). Take a step outside your comfort zone and go learn why.
Post: No Bonds for Me
Link to comment from October 30, 2021