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Subject:  Re: TIAA Traditional Date:  4/20/2006  10:21 AM
Author:  Lokicious Number:  32 of 58

Hi Ken,

I'm talking about comparing supplemental with the bond fund. I would generally expect TIAA-Traditional in the regular account to outperform the bond fund, except when the bond fund is sitting on a substantial capital gain when interest rates get very low (if then). The regular TIAA-Traditional is basically a conservative pension plan that buys long bonds to cover future distributions, plus other tricks up its sleeve, so its yield ought to be higher than the Lehman total bond index, which the bond fund (like Vanguard's total fund) tracks. What will happen when boomers start retiring and maybe moving lots of money into TIAA-Traditional and then out is a different story. I think they have their bases covered.

But with supplemental, the comparison doesn't make sense. While I've been paying attention for the last few years, the bond fund has consistently had a higher yield than Traditional's interest rate (by more than .5%). And if we look at how interest rate risk is supposed to work, in reverse, duration multiplied by change in basis points, the capital return on the bond fund over 5 or 10 year periods should be significant.

I can easily find numbers for Vanguard, which tracks the same index, though I can't find historic durations, but if anything they used to be longer (more long bonds in the index), so I think a duration of 5 is minimum, but we could use 4 and draw the same conclusions.

On 7/18/96 the Vanguard fund had a yield of 6.58%; same day in 2001 the yield was 6.18%, this April 18 5.08%. (The Vanguard yields are slightly higher than Cref bond fund, because of lower expense ratio, but the difference is consistent.)

So based on interest rate risk formula, over 10 years, there should be a capital return of about 7.5%, .75% annualized. Over 5 years, capital return should be 5.5%, or 1.1% annualized. Because of higher yield, the compounding should be in favor of the bond fund, but I'll ignore it.

So bottom line is, I would predict the bond fund to have beaten supplemental Traditional by around 1.25% annually over 10 years and 1.6% for 5 years. In fact, it should have beat the regular Traditional, even if regular gets higher yields by .75% annually. But, in fact, over both 5 and 10 year periods, Traditional is winning.

Somehow, not only is the capital return vanishing into thin air, so is the higher yield.

This is what I've been trying to figure out on the bond board. Something is going on, at least with funds that track the Lehman total index, that is leading them to substantially underperform what income return plus capital return based on the interest rate risk formula says is supposed to happen.
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