Unfortunately, it isn't really possible for a bond fund to keep your
principal completely safe, and here's why: if the fund is holding
bonds with a maturity of (on average) 6 years, yielding (say) 4%, and
interest rates go up so that similar bonds now yield 5%, those bonds
are now worth only .95 of what they were previously. Yes, if you wait
the six years for the bonds to mature, you'll get your principal
back--and the same thing is true of the mutual fund, you'll eventually
get back up to even when you take into account the income
distributions, assuming that rates don't continue to rise. But in the
meantime, the fund will need to accurately report that its Net Asset
Value has declined.
One thing that you can do with individual bonds that a mutual fund
can't do is target a specific maturity date: if you know you need to
pay for college in 2020, you can, in 2010, start buying bonds that
mature in that year, and know pretty exactly how much money you'll
have when you need it. I don't think you'll be able to find a fund
that does exactly that. (there are some funds-of-funds which target a
specific retirement date, see for example the Fidelity Freedom 2030
http://www.copera.org/PDF/Fidelity2030.pdf, but I haven't seen one
that's all bonds, and they seem to just mean an extra layer of
expenses.)
Some fund families do appear to report turnover for bond funds: This
(http://www.preferredgroup.com/Funds-FixedIncomeFacts.htm) fund at the
Preferred Group, for instance, mentions 509% turnover for 2001, so
that's a good one to stay away from. Vanguard, unfortunately, does
not appear to report turnover for bond funds, which seems strange
because they generally do a good job of highlighting the effect of
high turnover on fund costs.
In general, turnover is one of the biggest contributors to high fund
expenses, of course, so if you look for a low-expense-ratio fund you
will end up finding a low-turnover fund as well.
The Vanguard bond funds do report the mix of maturities that they're
currently holding--you can see there that the "intermediate-term" bond
funds with average maturities up in the 7 year range are still holding
a lot of shorter-term bonds, which may indicate that they are holding
bonds to maturity rather than selling them when they are closer to
mature, but I'm not really sure about that.
I hope this information is useful to you--please ask for
clarifications if you think of something I haven't answered for you.
Thanks,
David
Some links:
Schwab article on selecting bond mutual funds:
http://www.schwab.com/SchwabNOW/SNLibrary/SNLib133/SN133mainInvestmentTopics_SelectingAFund_Details.html
Similar article from TheStreet.com:
http://www.schwab.com/SchwabNOW/SNLibrary/SNLib133/SN133mainInvestmentTopics_SelectingAFund_Details.html
This article notes that since bonds mature and must be replaced, you
can't aim at as low a turnover as you would with a stock fund:
http://www.chase.com/cm/cs?pagename=Chase/Href&urlname=pfs/ap/essentials/strategies/pickfund
searches used: low turnover bond mutual fund, vanguard fund
performance turnover bond, bond mutual fund turnover reporting |
Request for Answer Clarification by
familywu-ga
on
29 Oct 2002 16:44 PST
To be honest - I had hoped my question and explanation of what I
wanted was specific enough to describe a slightly better answer.
I know all the information described in the answer. That's why I
asked the specific question of which funds are buy and hold model (if
there are any), that's why I specifically asked whether low cost index
bond funds are basically buy and hold (of course if the fees are lower
they are less likely to traded) and that's why I specfically asked how
I determine how much trading actually goes on inside funds.
I haven't used this service before - but I really would like very
specific answers to the question. If you or someone out there can
tell me the specific answers.
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Request for Answer Clarification by
familywu-ga
on
29 Oct 2002 16:48 PST
BTW - obviously what I mean by fund turnover is whether the fund sells
its bonds - purchasing is what they will always have to do if bonds
mature.
I also appreciate the comment regarding Vanguard and your honest
regarding not really knowing - obviously both you and I are just
asking for some additional transparency.
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Clarification of Answer by
davidmaymudes-ga
on
29 Oct 2002 23:18 PST
Well, I'm not sure how much I can say here.
Morningstar doesn't appear to report turnover for bond funds (at least
not on the free-with-registration part of their website....) and the
fund companies themselves don't seem to report it. If they did give a
raw turnover number, it would again be difficult to know how to
interpret it--if it included purchasing new bonds to cover maturing
ones, it would be inflated because these funds typically keep at least
some money in very short-term instruments, so if 98% of the money was
in 30-year bonds and 2% in 30-day bonds, you would still see a
"turnover" of 27%/year.... Also, even if the fund *is* selling some
of the 30-year bonds when they only have a few weeks or months left to
run, the selling price would be so close to par that it wouldn't
affect your returns much at all.
So, in summary: nobody appears to report this information, and it
wouldn't help you much anyway. What's going to be important is the
overall expense ratio of the fund, and the average maturity and rating
of the securities that the fund is holding.
One other possibility you could look in to is a unit trust of some
kind; in principle, this is a completely unmanaged portfolio of
(usually) bonds where you buy shares at a single time, and get your
share of the proceeds. In my experience, unit trusts tend to have
relatively high sales charges, but they might be what you're looking
for: see for example
http://www.mycititrade.com/research/uit/uit_muni.html, which mentions
sales charges in the range of 3%+. Potentially this could be a good
deal, I suppose, if you're holding the bonds for more than 20 years.
I'm sorry I can't give you a more specific answer; I hope you at least
feel you've received $5 worth of information.
--David
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Request for Answer Clarification by
familywu-ga
on
30 Oct 2002 11:05 PST
So the answers are as follows:
Are there any corporate, California muni bond and treasury funds that
are basically buy and hold with little bond trading?
- You don't know, but it is likely that low cost funds don't sell
bonds very often as part of keeping costs lower
Are the low cost index bond funds basically buy and hold?
- No answer
When researching bond funds, how do I determine how much trading
actually goes on inside the funds?
- There doesn't appear to be a way of figuring out this information
Do you know the answer to the 2nd question? I would assume that any
info on how index bond funds are constructed and maintained would help
give some guidance.
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Clarification of Answer by
davidmaymudes-ga
on
30 Oct 2002 11:45 PST
The main piece of useful information I felt I was giving you was that
even if a bond fund did follow a "buy and hold" strategy, it would not
have the result you were hoping for of making the "principal stay
constant and safe", at least if by that you meant that the NAV of the
fund would stay constant and not go down if interest rates rose. If
you hadn't included that part of your question, I probably would not
have chosen to answer it, because, as you have said, I don't know
specifically what goes on inside a bond index fund; perhaps a Google
Researcher who happens to run such a fund would have come along and
answered your question instead.
You ask "are index funds basically buy and hold", and I think that the
answer there is the same as the answer for stock funds, namely that
they mainly buy and sell to reflect changes in the index. Obviously,
for bond funds, especially longer-term bond funds, if the index is
"bonds 10 years from maturity", that would imply that to match that
index the fund would need to be continuously replacing bonds closer to
maturity with longer-term investments.
As I mentioned, no bond mutual fund is likely to give you quite the
same flexibility you have when laddering your own individual
bonds--this would be a product somebody could offer, but it doesn't
appear anybody does it other than by offering a "fund of funds" which
reduces average maturity by selling a long-term fund and buying a
short-term fund over time, which has basically the same effect as just
holding bonds to maturity, but obviously higher expenses.
If you want to know specifically what the trading activities of a fund
are, one way is to read the complete list of holdings in two annual
reports six months apart and see what changes have happened. It would
be nice if they discussed their detailed activities in their reports,
but they don't appear to, from the several I've read.
(this also gives you some insight into how the funds are constructed,
which seems to be pretty much how you'd expect--they buy a bunch of
bonds from around the country or region of approximately the proper
maturity)
So, in summary:
there do not appear to be any mutual funds where you can specify a
fixed target maturity date. any fund which attempts to maintain a
fixed "average time to maturity" for its bonds will almost certainly
need to do some buying and selling. if you compare two funds, one
which buys only 20-year bonds and holds them until they mature, and
one which buys 11-year bonds and sells them when they're 10-year
bonds, there would be some difference in how performance related to
the details of the yield curve, but I don't believe it's a meaningful
one compared to the effects of the expense ratio and the overall
average maturity.
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Request for Answer Clarification by
familywu-ga
on
30 Oct 2002 12:40 PST
Agreed. You've also come up with a good point regarding duration - in
order to keep duration the same - you can have a buy and hold strategy
- but then you would have yield curve issues and wouldn't be "selling"
what you claim to be "selling" ie a 10 year bond fund is not supposed
to be 20 year bonds combined with 1 year notes.
I guess that's why I'm a bit at odds with the asset allocation schemes
pushed by the popular press. It's not clear to me that a bond fund
really gives you the same "protection" and asset diversification as
bonds. If we get back to the 70's and you held both bond funds and
stocks funds - you would lose money on the "principal" of both.
Thanks for your diligence.
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Clarification of Answer by
davidmaymudes-ga
on
01 Nov 2002 23:37 PST
The general consensus I've heard is that if you have enough to invest
($50,000 according to the article below) you're better off buying
individual bonds.
http://www.schwab.com/SchwabNOW/SNLibrary/SNLib133/SN133mainInvestmentTopics_IndividualOrBondFunds_Details.html
Here's another....
http://bonds.yahoo.com/sm_bd6.html
Personally, I would have more patience for individual bonds if it were
easier to buy and sell them, especially online; I think I would have
had less money in stocks and more in bonds 2000 if it had been
possible to buy and sell bonds without making a phone call during
business hours, and without being uncertain how much of a markup I was
paying on each transaction....
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Request for Answer Clarification by
familywu-ga
on
02 Nov 2002 18:20 PST
Have you checked out Vanguard? They have some online bond purchase
site (they call it a bond desk). You can search it by parameter types
and it is all online and real time.
It's pretty raw and complex - but at least you can buy directly and
you know exactly what price/yield you are getting.
I'm just buying through my broker - hopefully he is trustworthy and
giving me reasonable prices without too much of a spread.
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Clarification of Answer by
davidmaymudes-ga
on
02 Nov 2002 22:20 PST
thanks, I'll look at the Vanguard thing more.
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