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Over the past few weeks, I’ve gone from a passive investor to a kind of parlor corporate treasurer, looking for ways to boost my portfolio returns by a few basis points.
I had to wrestle with the big questions, think hard about the bond market, and guess where inflation is heading, all to keep my retirement nest egg from being scrambled in an uncertain economic environment.
I’d like to tell you that I do this because I’m a great proactive guy who jumps on problems early. Afraid not. I’m doing this because my wallet has done so badly this year.
Although this was mainly due to an awful market, I think it was partly my fault that I was too detached.
A year and a half ago, I decided to put most of my retirement portfolio into a single Vanguard fund that mimicked a global portfolio of 60% stocks and 40% bonds, the
LifeStrategy Moderate Growth Fund
(symbol: VSMGX). I’m 65 and my reasoning was that the fund would protect me from myself by automatically managing the parts of the investment where I often hesitate, like buying stocks when the market dips. I knew the markets were bubbly, but I figured this was the strategy that would serve me best over the next 20-30 years.
My logic might have been defensible, but my timing was horrible. The fund has managed to capture almost every part of the market that has been killed this year. The fund is down 16% year-to-date, as of Thursday’s close, and its losses were worse a few weeks ago. As things stand, this is the fund’s worst year since 2008 during the financial crisis.
With 40% of its equity investments overseas, the fund’s shares have been hit hard, dragged down by the rising dollar. I was more or less prepared for it and I have no big regrets there.
I was unprepared for my bond losses. Instead of protecting me from those stock losses, my bonds added them.
The Fed raised short-term rates by about 4 percentage points this year, leading to heavy losses. The fund’s bonds had a duration of over 6 years and were hit hard by rising rates. Its largest fixed-rate holding, Vanguard’s Total Bond Market II, is down more than 12%, plenty for the safe part of my portfolio.
I don’t blame the fund; he did exactly what his investment strategy required and i knew what i was buying. I feel guilty.
When the yield curve inverted earlier this year, I should have left my Vanguard fund and turned to short-term bonds or cash for protection.
If I had opted for shorter duration bonds, I would have avoided a good part of my losses this year. A switch to cash would have completely avoided the losses.
This is why some experts advise relying more on cash than on bonds. William Bernstein, author of Four pillars of investing, a handbook for do-it-yourself investors, has been saying for years that the entire fixed-income portion of your portfolio should be in cash. He notes that this is what Warren Buffett is doing with
Berkshire Hathaway
,
which has $104 billion in cash or cash equivalents.
And because my nest egg was invested in a single fund with an investment strategy based on medium-term bonds, I could not switch to shorter-term instruments without selling this fund and investing the proceeds in investment funds. separate stocks and bonds.
Instead of doing anything, I hesitated and kept hoping that interest rates would come down. They kept going up and my losses kept going up. I was doubling, to borrow a gambling term.
I finally said enough and sold the fund, adopting a more defensive strategy that spreads my stocks across three separate funds: a US total market fund, a foreign total market fund, and a US value fund. I’m overweight value stocks because I think they could outperform for a while in the current environment and because growth stocks have been on such a high for so many years.
My main bond fund is now the
Fidelity Short Term Treasury Bond Fund
(FUMBX). It has an average bond duration of 2.54 years. Due to its shorter duration, it will earn less if rates fall. But he will also lose less if they go up. And at the moment it is yielding 4.4%, much more than mid-term bonds.
I did not stop there. I sold half of my bonds to buy certificates of deposit traded at 3 and 4 years yielding 4.9% and 4.95% respectively. They have produced more than comparable treasures, but are federally backed and just as safe.
If rates go up, the market value of those CDs will drop, but since I’m holding them to maturity, I’ll still be earning close to 5% interest, which isn’t great. And if rates go down, a 5% interest rate will look increasingly attractive in a low-rate world.
I take other steps to increase performance. Outside of my retirement account, I keep a good amount of money in a Vanguard money market fund. I took some of the money and bought 4 month treasuries that were yielding over 4% to boost my returns a bit.
All this search for yield is a lot more work than my single fund strategy. And I always run the risk of not coming out victorious in the end.
But if interest rates go up again, I won’t be as badly hurt as last time. And if they fall, I will do well for many years.
I call that a victory.
Write to Neal Templin at neal.templin@barrons.com
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