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Author: dueyafa Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: of 35397  
Subject: Question about Bond Funds Date: 4/21/2006 9:51 PM
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Hello to All,

I am diversifying the portfolio in my (actually my wife's), 401(k). Initially she had approx. 10% in bonds. Based on forseen economic and market indicators, I'm wondering if we should increase her bond exposure and in what funds.

These are the choices available and of course our tendency is to look at past performance and pick the bond fund with the best performance. Probably not the best idea, so I'd like some help understanding these funds in order learn and to make an educated decision about the funds available.

I've provided the profiles where available, but there were not profiles that I could find for the Lehman Brothers Aggregate Bond Index. This seems to be a standard against what others are measured...?

I would appreciate any help explaining each of these and moreso, any advice as to what choices might be best based on the forseen future, as well as whether or not to increase her weighting in bonds.

Thank you kindly,
duey
----


Lehman Brothers Aggregate Bond Index
---------------------


Bond Index Fund

The Fund is invested in fixed income securities that in total approximate the price and yield performance of the market for debt securities in the U.S. as defined by the Lehman Brothers Aggregate Bond Index. The Aggregate Bond Index includes all fixed-rate U.S. dollar-denominated debt securities issued in the U.S. that are rated investment grade. Securities included in the Aggregate Bond Index also must have at least one year until maturity and an outstanding par value of at least $100 million. Fund assets are invested in a collective investment fund through Barclays Global Investors, N.A. Barclays funds use sophisticated sampling techniques to select from the Aggregate Bond Index a broad range of securities that are expected to perform very much like the full Aggregate Index. In addition, it is expected that the Trustee will hold about 1% to 2% of the Fund, on average, in short-term investments to provide liquidity for daily activity, but the percentage may be higher or lower, depending upon the expected liquidity requirements of the Fund. The value of your investment in the Fund may fluctuate with changes in interest rates or for other reasons.
--------------------


PIMCO Total Return Instl (PTTRX) - Morningstar Category Intermediate-Term Bond

PIMCO Total Return Fund seeks total return consistent with preservation of capital. The fund normally invests at least 65% of assets in debt securities, including U.S. government securities, corporate bonds, and mortgage-related securities. It may invest up to 30% of assets in securities denominated in foreign currencies. The fund may invest up to 10% of assets in high-yield securities rated B or higher. The portfolio duration generally ranges from three- to six-years.
------------------


T. Rowe Price High-Yield (PRHYX) - Morningstar Category High Yield Bond

The investment seeks high current income; capital appreciation is a secondary consideration. The fund normally invests at least 80% of assets in high-yielding bonds and income-producing convertibles and preferred stocks. It may invest up to 20% of assets in both foreign securities and common stocks. The weighted average maturity normally ranges from six to 12 years
--------------


PIMCO Real Return Instl (PRRIX) - Morningstar Category Inflation-Protected Bond

PIMCO Real Return Fund seeks real return consistent with preservation of capital. The fund normally invests at least 80% of assets in inflation-indexed bonds of varying maturities issued by the U.S. and non-U.S. governments, their agencies or instrumentalities, and corporations. It invests primarily in investment grade securities, but may also invest up to 10% of its total assets in high yield securities rated B or higher by Moody's or S&P or, if unrated, determined by PIMCO to be of comparable quality. The fund may also invest up to 20% of assets in securities denominated in foreign currencies. It is nondiversified.
-------------------


PIMCO Total Return III Instl (PTSAX) - Morningstar Category Intermediate-Term Bond

PIMCO Total Return III Fund seeks total return consistent with prudent social criteria. The fund invests primarily in corporate bonds, U.S. government securities, and mortgage-related securities. Portfolio duration ranges from three to six years. It may invest up to 30% of assets in foreign securities, and may invest without limit in dollar-denominated foreign securities. The fund may not invest in issuers engaged in the operation of gambling casinos, the provision of healthcare services, or the manufacture of alcohol, tobacco products, pharmaceuticals, pornography, or military equipment.
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Author: pauleckler Big funky green star, 20000 posts Top Favorite Fools Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16378 of 35397
Subject: Re: Question about Bond Funds Date: 4/21/2006 11:06 PM
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Diversification by picking several of these should be fine. They appear to be a reasonably diverse group. The greatest risk and highest yield looks to be the TRowePrice High Yield Fund. That is probably a junk bond fund, the one most likely to do well in good times, but most likely to crash if interest rates rise a lot or we go into recession.

As part of a diversified portfolio, even a junk bond fund is OK. Just don't over do it. Not a good place to park your rent money.

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Author: Lokicious Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16380 of 35397
Subject: Re: Question about Bond Funds Date: 4/22/2006 1:06 PM
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"These are the choices available and of course our tendency is to look at past performance and pick the bond fund with the best performance. Probably not the best idea, so I'd like some help understanding these funds in order learn and to make an educated decision about the funds available."

Chasing past performance is a very nice way to lose a lot of money.

I presume your wife doesn't have the option of buying individual bonds, instead of bond fund or money market as the only fixed income options.

If you read this board, you'll see that most of us don't think much of bond funds, and not because we're like stock pickers, who don't lke funds because they think they are smarter, but because there are some inherent problems with bond funds.

In a rising interest rate environment (and remember, 1-2 years ago, rates were lower than they had been in 40 years, and they still haven't reached average), bond fund NAVs will drop, so your total return (dividends minus capital loss) will be less than the dividends alone. This won't beat investing in individual bonds or CDs: whether it beats a money market is hard to predict.

We've also been uncovering other issues about returns on bond funds that could make them even worse than they should be.

We don't know for sure where rates are headed (my mother-in-law informed me a couple of days ago that they were going up and to wait, so I'm almost certain the are headed down). Bill Gross, PIMCO's guru, who is considered the smartest guy about bonds also says rates are headed up, but about 6 months or a year ago, he said they were headed back down and they've been going up ever since. Really objective evidence, like National Debt, should suggest higher rates, but there are lots of other factors, like Asian lending and what the Fed does if the economy cools with high gas prices and falling real estate values.

Anyway, if you do want a bond fund instead of accepting money market yields, which aren't that much lower (at least the ones at Vanguard and TIAA-Cref), it is safer to stick with the shorter duration funds for now. The index fund should have a duration of around 4.5%, so a 1% point gain in relevant interest rates should only translate into a 4.5% loss to NAV.

PIMCO Total Return may attempt to outsmart the market (which an index fund won't): you'll pay a higher expense ratio for that and it may or may not succeed, but it is probably in the same risk category as the index fund.

TIPS (inflation protected) funds hold longer bonds, but should be only slightly riskier than the other two funds, because of how TIPS work.

The High Yield fund is a different can of worms: junk bonds track stocks more than interest rates, because the risks are of default during down economic times.

I don't know about the PC fund. I don't think social choice would make much of a difference in yield or risk.


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Author: dueyafa Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16394 of 35397
Subject: Re: Question about Bond Funds Date: 4/23/2006 11:59 PM
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Hello to All,

Lokicious - thank you for your reply.

I presume your wife doesn't have the option of buying individual bonds, instead of bond fund or money market as the only fixed income options.

In the 401(k), I've listed what's available -- bond funds, only.
--------------

In a rising interest rate environment (and remember, 1-2 years ago, rates were lower than they had been in 40 years, and they still haven't reached average), bond fund NAVs will drop, so your total return (dividends minus capital loss) will be less than the dividends alone. This won't beat investing in individual bonds or CDs: whether it beats a money market is hard to predict.

Why be in a bond fund at all, then, with regard to her 401(k), at least? Based on this statement. Granted, we can balance our total portfolio and not have bond funds, esp., if NAVs will continue to drop. Of course, who's to say equities don't either.
--------------

We've also been uncovering other issues about returns on bond funds that could make them even worse than they should be.

I'd be interested to hear more about these issues, if you or anyone else is inclined.
--------------

The index fund should have a duration of around 4.5%, so a 1% point gain in relevant interest rates should only translate into a 4.5% loss to NAV.

Can you (or anyone), show me how you arrived at this number?
--------------

The High Yield fund is a different can of worms: junk bonds track stocks more than interest rates, because the risks are of default during down economic times.

What do you mean, because the risks are of default during down economic times?
---------

Lokicious - I appreciate your insight and time.

Thank you,
duey








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Author: DrTarr Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16395 of 35397
Subject: Re: Question about Bond Funds Date: 4/24/2006 12:58 AM
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duey,

Why be in a bond fund at all, then, with regard to her 401(k), at least? Based on this statement. Granted, we can balance our total portfolio and not have bond funds, esp., if NAVs will continue to drop. Of course, who's to say equities don't either.


A bond fund NAV will decrease as the interest rates- or yields increase. The converse is also true, as interest rates or yields decrease the bond fund NAV will increase. So, if you put your money into a bond fund when the interest rates are at a historical low then as the rates return to "normal" the bond fund NAV - your money will be less. If you purchase when the rates are higher than normal and the rates come back down, the bond fund NAVm again your money is more.

Depsite all of the ups and downs the bond fund returns something close to the interest rate. And if held to a point where the interest rate is back at a level when purchased, the theory is that the NAV should be the same. But, the return is mostly gauranteed. There will always be a positive return in dividends, that is why some are in a bond fund.
To get a simple gauranteed - positive dividend return.

I'd be interested to hear more about these issues, if you or anyone else is inclined.

As in the paragraph above - in theory - as the interest rate returns to the level at which one purchased into a bond fund, the NAV should come back to about the same value. We are not finding this to be the case, but have not tracked down for sure a reason or hypothesis which bears out in testing. I think it has two factors, one is the overall effect of purchasing low interest coupon bonds changes the amount that a given interest rate change will change the price of the bond, it makes the interest rate increases less effective. Then when higher interest rate bond are purchased this makes is such that a decrease in rates is less effective. So IOW, if the interest rate were to change in a short period of time and then return - the NAV would return to its original amount. But with the change taking place over years, the bond fund can not make up what was lost. Right now Loki is testing some theories and this is just one of many. I have not completed any kind of test on this and I am trying to figure this out but for now it seems logical (at least to me for now) Bottom line - we are not convinced you get all your money back in NAV when interest rates return to purchase level.

Can you (or anyone), show me how you arrived at this number?

Because bonds pay different rates, with different schedules and have different lengths to maturity a standard measure was developed - DURATION. This is a measurement of the timing for a promised cash flow.

DURATION = Σ [time(i) x weight(i)]

Where:
time(i) is the amount of time to the i-th payment.
weight(i) is weighted average of the i-th payment - or

weight(i) = (CF/(1+y)^t)/Bond Price

CF is the Cash Flow or amount of the payment
y is the yield

But the nice thing is that each bond fund will give you the number so there is no calculating involved - you can just look it up. This number is valuable in immunizing a portfolio from interest rate risk. It is a measure of the interest rate sensitivity of the portfolio. You can use this number to estimate the amount of change there will be in the bond price when the interest rate changes by a certain amount.

In the case above - the DURATION = 4.5 so a 1% change in interest rates from 4.5% to 5.5% would cause an estimated loss of---

-4.5 X 1% = -4.5%

This is a linear estimate but a quick method for getting close enough for handgrenades.

To make an even closer estimate you would divide by the actual interest rate plus one.

-4.5 X 1% / (1 + .045) = 4.3%

You can get closer - or the exact amount in theory but forget about that unless you're a geek like me!


What do you mean, because the risks are of default during down economic times?

High Yield bond funds contain bonds of companies that are not highly rates - not very secure, these companies are junk bond rated. For example right now GM bonds are considered junk because the company is having such problems. With these problems the investor wants a higher return for assuming a higher risk. And the risk they are assuming is that the company will not pay the promised cash flow, the company will "default" on its obligation. And in down economic times, more companies will not pay their bonds meaning more risk of default.

DrTarr



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Author: theHedgehog Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16396 of 35397
Subject: Re: Question about Bond Funds Date: 4/24/2006 1:07 AM
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DrTarr:
Depsite all of the ups and downs the bond fund returns something close to the interest rate. And if held to a point where the interest rate is back at a level when purchased, the theory is that the NAV should be the same.


I would like to point out something very elementary to a bond fund expert, but that is not quite so obvious to the neophyte. When you buy a bond fund, the interest rate that the fund is paying when you buy is, by and large, the rate that you will get throughout your ownership of the fund. Yes, the advertised rate will go up and/or down, but that rate is judged by the NAV of the fund, not your purchase price. If you sell a bond fund while the NAV is depressed WRT your buy-in price (IOW the interest rate went up after you bought in), then you lose twice: 1) on the interest rate, because your effective interest rate on YOUR money was less than what everyone else was getting, and 2) you lost money on the NAV.

Hedge

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Author: Lokicious Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16399 of 35397
Subject: Re: Question about Bond Funds Date: 4/24/2006 10:32 AM
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"Why be in a bond fund at all, then, with regard to her 401(k), at least? Based on this statement. Granted, we can balance our total portfolio and not have bond funds, esp., if NAVs will continue to drop. Of course, who's to say equities don't either."

The problem with trying to balance your total portfolio without fixed income/bonds in 401(k) is that you pay taxes on CDs/bonds at your marginal rate in a taxable account. Also, from rebalancing perspective, you need something other than equities to rebalance into when stocks are hot and out of when stocks are not. When bonds are gaining in value during bear stock markets, this works to you advantage over a money market or buy and hold with individual bonds. It's not clear the current situation makes that likely with bond funds, but worth knowing about for future.

"I'd be interested to hear more about these issues, if you or anyone else is inclined."

This is what has been being discussed in a parallel thread. There are a couple of points: it looks like the stated SEC yields on some funds may be consistently overstated, though we aren't sure. I'm discounting about .25% on funds that track the Lehman Total Bond Index, though recently the discrepancy has been much more than that for short term bond funds. There is also something else going on with bond index funds that is leading them not to get the capital return they are expected to when interest rates fall. Thanks to Matthew's suggestion, I think the explanation may be the refinancing of mortgage bonds and the call of high yielding corporate bonds, with the upshot being that these funds may not be so great for rebalancing (using capital gain) and are probably going to do worse than owning and holding to maturity individual bonds not only when interest rates are rising but when they are "steady" (i.e., you are investing at average of an interest rate cycle) or even when rates are declining a little.

"The index fund should have a duration of around 4.5%, so a 1% point gain in relevant interest rates should only translate into a 4.5% loss to NAV.

Can you (or anyone), show me how you arrived at this number?"

Theoretically, you can calculate the change in a bond fund's share price by multiplying its "duration" (which is listed) by the % point change time in relevant interest rates. So, if a fund has a duration of 5 and relevant interest rates go from 5% to 6%, the fund's share price should drop 5%. We're learning just how complicated this really is: some of the share price goes into realized capital gains that are distributed (like how dividend and capital gain distributions ffect stock funds); durations change and are at best approximations; and it looks like calls and refinancing can have a major impact on some funds, throwing off simple calculations, and that doesn't even include defaults.

"The High Yield fund is a different can of worms: junk bonds track stocks more than interest rates, because the risks are of default during down economic times.

What do you mean, because the risks are of default during down economic times?"

Yes. During hard times, all corporate bonds tend to sell at a higher discount to Treasuries than during good times, because of fear of defaults if companies fail. But if interest rates are falling, the gain in value of high investment grade corporates will more than offset the change in discount (e.g., in good times, a AAA Corporate may only have a higher yield of .25% compared to a similar maturity Treasury, but in hard times it may have to pay a .75% higher yield). With junk bonds, fear of default goes so high during hard times, the tradable value of the bonds will drop much more than any gain you would get from interest rates on safe bonds dropping, making junk bond coupons (the actual dividend they pay) look high.



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Author: dueyafa Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16403 of 35397
Subject: Re: Question about Bond Funds Date: 4/24/2006 2:22 PM
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Dr Tarr,

Thank you for your reply.


A bond fund NAV will decrease as the interest rates- or yields increase. The converse is also true, as interest rates or yields decrease the bond fund NAV will increase. So, if you put your money into a bond fund when the interest rates are at a historical low then as the rates return to "normal" the bond fund NAV - your money will be less. If you purchase when the rates are higher than normal and the rates come back down, the bond fund NAVm again your money is more.

Even with a mere GED, I can follow this -- simple enough, at least on the surface. And as a young enlisted pup, from 25 some odd years ago when I first was assigned to a front-line F-15 fighter squadron, I thought -- ya hang around with smart, ya get smart. Am thinking the same holds true here. My motivation is many-fold, as I'll describe later.
------

...as the interest rate returns to the level at which one purchased into a bond fund, the NAV should come back to about the same value. We are not finding this to be the case, but have not tracked down for sure a reason or hypothesis which bears out in testing.

I think it has two factors, one is the overall effect of purchasing low interest coupon bonds changes the amount that a given interest rate change will change the price of the bond, it makes the interest rate increases less effective. Then when higher interest rate bond are purchased this makes is such that a decrease in rates is less effective. So IOW, if the interest rate were to change in a short period of time and then return - the NAV would return to its original amount. But with the change taking place over years, the bond fund can not make up what was lost. Right now Loki is testing some theories and this is just one of many. I have not completed any kind of test on this and I am trying to figure this out but for now it seems logical (at least to me for now)

Bottom line - we are not convinced you get all your money back in NAV when interest rates return to purchase level.

Would this be worthwhile to start a new thread and ask Loki to elaborate and/or show findings to date?

Also, what is the acronym "IOW?"
-------------------------------

Because bonds pay different rates, with different schedules and have different lengths to maturity a standard measure was developed - DURATION. This is a measurement of the timing for a promised cash flow.

(Note: I took the liberty of deleting the entire calculations, remember I have a mere GED. duey :)
----------

But the nice thing is that each bond fund will give you the number so there is no calculating involved - you can just look it up.

This number is valuable in immunizing a portfolio from interest rate risk. It is a measure of the interest rate sensitivity of the portfolio. You can use this number to estimate the amount of change there will be in the bond price when the interest rate changes by a certain amount.


Where do I find this number? And, as I can only be in a fund, I suppose I'd leave this up to the manager anyway, correct? Not to say, I don't want to know where to find the number.
-----------------------------------


High Yield bond funds contain bonds of companies that are not highly rates - not very secure, these companies are junk bond rated. For example right now GM bonds are considered junk because the company is having such problems. With these problems the investor wants a higher return for assuming a higher risk. And the risk they are assuming is that the company will not pay the promised cash flow, the company will "default" on its obligation. And in down economic times, more companies will not pay their bonds meaning more risk of default.

As to junk bonds as with equities, or many other financial vehicles, I can see a simple correlation -

HIGHER RETURN can assume HIGHER RISK.
-------------------------------

Dr Tarr -- Thank you for sharing your knowledge and your time.

duey






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Author: dueyafa Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16405 of 35397
Subject: Re: Question about Bond Funds Date: 4/24/2006 2:32 PM
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Hedge,

Thanks for the post.

I would like to point out something very elementary to a bond fund expert, but that is not quite so obvious to the neophyte. When you buy a bond fund, the interest rate that the fund is paying when you buy is, by and large, the rate that you will get throughout your ownership of the fund. Yes, the advertised rate will go up and/or down, but that rate is judged by the NAV of the fund, not your purchase price. If you sell a bond fund while the NAV is depressed WRT your buy-in price (IOW the interest rate went up after you bought in), then you lose twice:

1) on the interest rate, because your effective interest rate on YOUR money was less than what everyone else was getting, and 2) you lost money on the NAV.

--------------

Hedge,

Where bonds are concerned, I am indeed a neophyte, yet I am willing to begin the sojourn into bonds and at this point, apply my knowledge to bond funds. I'm afraid I'd be lost and wandering for 40 years if I tried to figure out Dr Tarr's formulas from his previous post.

At any rate, can you elaborate/review/re-explain for this neophyte -- a breakdown on "1)" above? I could use the lesson.

Also, what is the acronym "WRT?"

Hedge -- Thank you for your time and consideration.

duey




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Author: theHedgehog Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16407 of 35397
Subject: Re: Question about Bond Funds Date: 4/24/2006 2:44 PM
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dueyafa:
Where bonds are concerned, I am indeed a neophyte, yet I am willing to begin the sojourn into bonds and at this point, apply my knowledge to bond funds. I'm afraid I'd be lost and wandering for 40 years if I tried to figure out Dr Tarr's formulas from his previous post.

At any rate, can you elaborate/review/re-explain for this neophyte -- a breakdown on "1)" above? I could use the lesson.

Duey,

Keep in mind that my post was limited in its entirety to bond funds. My post does not apply to buying bonds.

...you lose twice:
1) on the interest rate, because your effective interest rate on YOUR money was less than what everyone else was getting,


When you lookup a bond fund, you will see an interest rate for that fund. The interest rate is based on the NAV. So, today, if the NAV is $85 and the fund is paying a dividend of $4.25/year, then the fund pays 5%/yr in interest rate (simple computation). If the NAV of that fund drops to $80 the rate would probably rise to 5.3125%. Such a deal, right? Well, it depends on which side of the fence you're on. Take your calculator out and multiply $80 times 5.3125%. Surprise! It's still $4.25.

What this means to you is that YOU are still getting 5%/yr from this bond fund, in spite of the fact that Joe Schmoe, who bought today, is getting 5.3125%. And, to add insult to injury, your NAV is now only $80. So, no matter which way you look at it, NAV or yield, you lose compared to everyone who buys today.

WRT = with respect to

Hedge

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Author: dueyafa Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16408 of 35397
Subject: Re: Question about Bond Funds Date: 4/24/2006 4:10 PM
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Lokicious,

Thank you for your reply.

And, before I forget, I noticed in reference to the NAV, a small "m" -- READ: "NAVm" -- what does the small "m" denote? tia

----------------

The problem with trying to balance your total portfolio without fixed income/bonds in 401(k) is that you pay taxes on CDs/bonds at your marginal rate in a taxable account. Also, from rebalancing perspective, you need something other than equities to rebalance into when stocks are hot and out of when stocks are not. When bonds are gaining in value during bear stock markets, this works to you advantage over a money market or buy and hold with individual bonds. It's not clear the current situation makes that likely with bond funds, but worth knowing about for future.

AGREED. We'd love to avoid taxes in a taxable account. I am curious what you or anyone else thinks about what the future holds, at least the next year.

I should have explained from the outset -- we are rebalancing my wife's 401(k) and so there are several dynamics at work -- I'm not chasing stocks (NAVs), except to maybe capitalize on moving some money around -- she simply had two large caps and the PIMCO Inflation Protected, so I'm sure we'll do better than that.

(A side note -- am I correct that bonds generate dividends which in the case of a 401(k) are tax-free?)

As to her portfolio -- I have several questions, hopefully relevant to this thread and discussion, aside from the fact that I am learning alot -- to which I'll take this time to thank you all. Thank you.
----------------

There have been several posts since visiting this thread, so my thoughts and posts may be a bit out of order, aside from the fact that I am one of the original ADHD-ers, from way back, as in 35 years ago.

So, to begin, you'd mentioned, "It's not clear the current situation makes that likely with bond funds, but worth knowing about for future." This triggered many thoughts for me.

If we can provide what the "future" is for the next 6-12 months, as we will review and rebalance her portfolio that often, then I have several questions...maybe better suited for the "Investing Beginners" board, or something similar. Regardless, here goes:

1) It seems the bull is running rampant everywhere, which is bad for bonds. Then I will consider your recommendation, PTTRX - Total Return Fund. Wish I'd have know that months ago.

Or, will inflation become a factor, in which case should I consider some allocation in PRRIX - Inflation-Protected Bond? Both are PIMCO, where Mr. Gross seems to be in a bit of a slump, but...time will tell. Another consideration is the fact that she has nearly 13% in PRRIX (which is at a low, so in effect we're selling low -- alas), but -- rebalancing the portfolio is more important. Unfortunately, the NAVs in the two large caps have dropped off lately, too.

Then to consider some junk, at least over the next year -- TRP HY (PRHYX) with its added risk.

Performance over the past year, as of 31 Mar 2006:

PIM REAL RETURN INST 0.81 (PRRIX)
PIM TOTAL RT INST 2.66 (PTTRX)
TRP INTL DISCOVERY 42.72 (PRHYX)

So, within this question alone:

1) based on the next year (will the bull get tired -- will inflation rear an ugly head?), should we increase our bond exposure from 10%, and
2) in looking at these three funds, what allocation of each?

-----------------

Next, you wrote, I think the explanation may be the refinancing of mortgage bonds and the call of high yielding corporate bonds, with the upshot being that these funds may not be so great for rebalancing (using capital gain) and are probably going to do worse than owning and holding to maturity individual bonds not only when interest rates are rising but when they are "steady" (i.e., you are investing at average of an interest rate cycle) or even when rates are declining a little.

If interest rates are indeed "steadying," -- but, are we sure (what of inflation, man -- would love to know that answer -- any thoughts?), then wouldn't say GM, hyped in the news as of late correlate with HY bonds (PRHYX, in my case), hanging in there -- with a dividend of 4 cents/month, as of late...and continue to do well in the short term.

Although, you'd mentioned how "defaults" throw off simple calculations...hmmm (and refinancing of mortgages -- as another dynamic). If GM defaults, there would be many other considerations, too, I expect -- but to stay on task (see ADHD above) -- what would the implication to bonds...be, if a GM defaults? And,

to continue, if interest rates "steady" -- the recommended Total Return (PTTRX, in my case) would be good. What am I missing? Feel like I'm wandering, to be sure.
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With junk bonds, fear of default goes so high during hard times, the tradable value of the bonds will drop much more than any gain you would get from interest rates on safe bonds dropping, making junk bond coupons (the actual dividend they pay) look high.

Again, this would make me lean towards PIMCO Total Return, correct? Based on our limited choice of funds. Also noting that your "upshot" solution was holding individual bonds to maturity, which we cannot do, at least within this 401(k). Cheez, after all of this, I'm all the way back to Square-One, when Lokicious simply gave this fund (PTTRX) a nod. But, I don't feel quite the neophyte since back then, FWIW.
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QUESTION: Ratings come from Standard and Poors, correct? So, if the rating drops, so does the value of the bond, which in turn lowers the NAV. Then, does the manager buy more (BUY LOW, SELL HIGH), to the point of "default," in the case of HY fund, but this would apply to any bond fund, eh? Albeit simplistic, is this correct thinking?
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In reviewing what I've written, this is entirely long-winded, but I would appreciate any advice or thoughts?

Thank you kindly.

duey




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Author: dueyafa Big gold star, 5000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16409 of 35397
Subject: Re: Question about Bond Funds Date: 4/24/2006 4:16 PM
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Hedge,

Thanks for your reply.
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What this means to you is that YOU are still getting 5%/yr from this bond fund, in spite of the fact that Joe Schmoe, who bought today, is getting 5.3125%. And, to add insult to injury, your NAV is now only $80. So, no matter which way you look at it, NAV or yield, you lose compared to everyone who buys today.
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WRT this explanation -- you're comparing to everyone who buys today.

Beautiful. I get it. Thank you for taking the time.

duey



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Author: DrTarr Big red star, 1000 posts Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16413 of 35397
Subject: Re: Question about Bond Funds Date: 4/24/2006 11:48 PM
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duey

First where to find the duration:

http://finance.yahoo.com/q/hl?s=VBISX

Look toward the bottom of the page and you will find a table with the:
Maturity = Average length of "life" for the bonds in a portfolio
Duration = Measure just discussed, and
Credit Quality = Measure of the ability of the issuer to repay the bond on schedule. (this is where the default risk shows up)

For Example VBISX

BOND HOLDINGS

Averages VBISX Category Avg
Maturity 2.70 3.64
Duration 2.44 2.06
Credit Quality AA AA




Why you compare the duration? The shorter the duration, the less the NAV will change for a change in interest rates. So if you believe interest rates are going up (meaning NAV is going down) if you are in a fund, generally you want to be in one with lower duration.

Also remember - The change in NAV is a two edge sword. If you get in when rates are really high and then ride the interest rate down, you can obtain price appreciation and every one who buys in after you gets a worse deal. IOW - In Other Words.

And I think Hedge was calling me the neophyte. You seems to be grasping this quite nicely! Don't worry about editing out the calcs. Like I said you can look the number up! But, I do have to say, if you were hanging around with smart pups they would have been F-14's. ;-)

DrTarr





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Author: theHedgehog Big red star, 1000 posts Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16414 of 35397
Subject: Re: Question about Bond Funds Date: 4/25/2006 12:07 AM
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And I think Hedge was calling me the neophyte.

?? You give a lot of good info, and are surely no neophyte, DrTarr. An awful lot of people who buy bond funds make the assumption that they are buying bonds, so they are getting the benefits of buying bonds. There doesn't seem to be any particular rush to educate anyone, so people like me are left to figure it out on their own. And then you have the aggravation of having your friends not believe the things you've worked out. Believe me, it's been a difficult journey for me over the past few years as I've discovered "the truth" about things like bond funds, CD redemption fees, and the like. My comment wasn't directed at you, by any means.

Hedge

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Author: jrr7 Big gold star, 5000 posts Feste Award Nominee! Old School Fool Add to my Favorite Fools Ignore this person (you won't see their posts anymore) Number: 16424 of 35397
Subject: Re: Question about Bond Funds Date: 4/25/2006 3:07 PM
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(A side note -- am I correct that bonds generate dividends which in the case of a 401(k) are tax-free?)

All transactions inside a 401(k) are tax-free, except if you're investing in an international mutual fund it may have to pay tax to the foreign government(s).

Only when you're withdrawing from the 401(k) do taxes take effect.

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