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Sell All Bond Funds – Except These Three
From the Baltimore Clubhouse – Last week, Club Chief Investment Strategist Alexander Green and I hosted 40 Members on our sold-out trip to Cuba.
I’m still giddy from the trip. So while today we focus on bonds, allow me to first share four – okay, technically five – words that describe our Cuba experience: eye-opening, complicated, colorful and fun. (In the weeks ahead, you’ll hear more from Alex and me about why you should travel to Cuba now.)
Now, back to bonds…
I’d like to tell you about an investment “conversation” we had in Cuba that relates to bonds.
To be clear, the talk wasn’t about investing in Cuba. It was about whether or not you should hold bond funds in your portfolio.
We held this closed-door conversation at Havana’s Parque Central hotel. It was there that Alex “snuck in” an exciting conversation on investing with attendees. The topic was the Club’s recommended asset allocation, particularly in regard to bonds.
I say “snuck in” because we were not permitted to advertise any focus on investing while in Cuba. To get our visa, we had to license our trip as a 100% “cultural education tour.” Our approved program allowed us to enjoy a cornucopia of art, music, architecture, charity and stunning landscapes, as well as frank discussions with locals. We also had fun cigar smoking, rum drinking and dining on delicious Cuban food. No complaints there!
At the hotel, we heard conference presentations from professors at the University of Havana. They shared their “candid” outlooks on challenges and changes taking place within the Cuban society and government, the effect of the continued U.S. embargo, and more privatization in Cuba in the future. (Most people expressed reserved optimism for a renewed relationship with the U.S.)
When our group was behind closed doors, Alex was able to express his thoughts on being a capitalist traveling in a communist/socialist country. He remarked on The Oxford Club’s asset allocation model – including what Members should do with their bond funds now.
The only three bond funds Alex recommends Members hold now are the ones we recommend in our Gone Fishin’ Portfolio:
- Vanguard High-Yield Corporate Fund (VWEHX) – up 16.75% for the past year and already up 1.74% this year.
- Vanguard Inflation-Protected Securities Fund (VIPSX) – up 0.77% year to date and up 4.03% for the past year.
- Vanguard Hi-Yield Bond Fund (VWEHX) – up 11.19% for the past year and up 1.59% so far this year.
The first fund is aggressive. The Vanguard High-Yield Fund holds mostly junk corporate bonds, lower than investment grade. That is why it continues to pay a total distribution yield of more than 5%.
Another reason we like it: The average effective maturity on the portfolio is less than five years. Holding short maturities is key to your bond portfolio’s success in a rising interest rate environment.
Alex loves these funds because Vanguard is a mutual company, meaning it’s shareholder owned. So another plus for the Vanguard High-Yield Fund is that most of the earnings pass through to you as the shareholder. This means the expense ratio is super low, unlike the expense ratios of most Wall Street bond funds. For this fund, it’s only 0.23%.
But as you can see from the chart below, by accepting a higher yield, you also have to accept the fund’s higher volatility.
The second fund Alex recommends, which Club Bond Strategist Steve McDonald calls “an exception” among bond funds (most of which you should sell), is the Vanguard Inflation-Protected Securities Fund. This fund is more conservative than the Vanguard High-Yield Fund, holding all investment-grade notes. It will be more stable in a rising interest rate environment. It will also do well when inflation finally expands beyond select sectors to our entire economy.
As a conservative bond fund, the Vanguard Inflation-Protected Fund is not exciting. In recent years, it’s produced a very low yield. Alex calls it “purchasing power protection,” much like an insurance policy. The average maturity is around eight years. Year to date, the distribution yield is 0.77%. For the past year, it’s 2.03%. And the expense ratio is a low 0.2%.
In today’s Market Wake-Up Call, Steve talks about why you should own individual bonds, not bond funds. He should know. His Oxford Bond Advantage track record is impressive… up 31.85% in 2016.
Watch Video and View Transcript
Steve recommends higher-rated corporate bonds and keeps maturities to seven years or less. For more on Steve’s outlook on bonds and his approach, check out today’s Market Wake-Up Call.
Stay tuned for more Club insights on Cuba.
Enjoy your Sunday,
Julia