# When are bond funds a suitable investment



## Warren (28 Jan 2008)

Hi,

When looking at various asset types bonds are usually framed as being less risky than equities and offering a return greater than that on cash deposits.

I've done some searches on bonds and it seems that its neither easy nor practial (from a tax point of view) to buy bonds here in Ireland.

An alternative is to by units in a bond fund. For example Quinn Life have a Bond Freeway Fund, Rabodirect have a couple, one being Robeco All Strategy Euro Bonds.

Looking at these a couple of questions and observations come to mind
As these are unit linked funds the return on your investment depends primarily on whether the price of the bonds the fund has invested in goes up or down (because of supply/demand, interest rates changes and expectations on interest rates). As there is no redemption date for the units of the fund you own its possible that a the time you choose to redeem your units the value of your investment is less than the sum invested. For me this means that one of what I would have seen as the chief benefits of bonds, a capital guarantee doesnt exist. If I could buy a bond and hold it to maturity I would receive the specified coupon rate each year and redeem my original sum when the bond matures. (of course it is the case that if I wanted to sell a bond before it matures I would have to sell it on the open market and accept the going price thus allowing for a situation where I may not receive my original investment amount but for now I am assuming  that I would want to hold the bond until maturity).
As well as no capital guarantee there is no guarantee on what the rate of return might be, its completely arbitrary. Again to me this increases my risk.
For looking at recent rates of returns on some of these bonds funds they appear to be much lower than current deposit rates. Why then would they be any more attractive a proposition that a deposit account? (From my limited knowledge I can guess that the recent poor performance may have be the result of interest rate rises in recent years leading to a price fall in existing bonds and that any future falls in interest rates would leads to an improved performance in bond funds, as would any stock market crashes etc)
I guess I confused in general as to why I would recommend a bond fund to someone over a deposit account right now? If anyone can shed some light on this Id appreciate it.

Thanks,
Warren


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## PMU (29 Jan 2008)

[FONT=&quot]If you have a mortgage you have in effect issued a bond to your mortgage provider, so you’re better paying off your mortgage than investing in a bond.  And if you have euro-denominated equity investment it’s difficult to see why you would invest in euro-denominated commercial debt, as you already have exposure to the commercial sector from your equity investments. Likewise, it’s difficult to see any significant benefit from investing in foreign commercial debt, if you have foreign equity exposure.  But this not to say you should rule out the diversification benefits of non-euro denominated government debt. There is a good case that foreign government debt is an asset class with diversification benefits from the perspective of someone who primarily invests in euro-denominated equities. Research has shown that not only do bonds have a [/FONT][FONT=&quot]low correlation with equities, but the lowest correlations are between domestic and foreign. I don’t know of any funds, but [/FONT][FONT=&quot]you can invest in USD and GBP government debt via bond index ETFs, but no capital guarantees.  [/FONT]


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## rusty (29 Jan 2008)

It may be of interest that you can buy global bond funds on NYSE. These funds are closed-end funds, (investment trusts). These vehicles, examples are GIM,FCO,FAX, have varying exposures to a wide basket of global currencies. In general, they do not currency hedge. You can research them on .
I have found them helpful for getting global bond exposure. Sometimes they trade at a discount to NAV. Be sure to check them out thouroughly to make sure they are what you want. You could also look at the fund sponsors' websites. Good luck!


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## tonster01 (30 Jan 2008)

Hi Warren

To keep it straight to the point:

Bonds are not a good investment when interest rates are as high as they are now, when they are as low as 1-2% for example, and bonds are yielding maybe 4-5%..then of course they are a better investment,

But for now, I would stick with multiple high interest accounts for lump sums as well as drip feeding money into various high interests accounts to get 7% approx.

Takes a bit of work but worth it in the current environment in my opinion

Hope this helps a little


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## PMU (30 Jan 2008)

http://uk.finance.yahoo.com/q/bc?t=1y&s=%5ESTOXX50E&l=on&z=m&q=l&c=ibtm.l

If the above link works, you should see the low-correlation and diversificaton benefits between foreign government debt (e.g. 7 - 10 yr Treasuries) and domestic equities (e.g. Eurostoxx50).  I'm not saying you'll make money on  foreign government bonds, just that they may lower your portfoio's volatitlty.


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## Warren (5 Feb 2008)

tonster01 said:


> Hi Warren
> 
> Bonds are not a good investment when interest rates are as high as they are now, when they are as low as 1-2% for example, and bonds are yielding maybe 4-5%..then of course they are a better investment,
> 
> ...



Thanks for that tonster01, clears up some things for me.




PMU said:


> http://uk.finance.yahoo.com/q/bc?t=1y&s=^STOXX50E&l=on&z=m&q=l&c=ibtm.l
> 
> If the above link works, you should see the low-correlation and diversificaton benefits between foreign government debt (e.g. 7 - 10 yr Treasuries) and domestic equities (e.g. Eurostoxx50). I'm not saying you'll make money on foreign government bonds, just that they may lower your portfoio's volatitlty.



Thanks for this also. I can see the benefits it just seems like there is almost no choice offered to Irish investors by Irish providers to invest in bonds.  All I can deduct is that there isnt a high demand for this type of product from Irish investors.


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## Gautama (5 Feb 2008)

tonster01 said:


> Bonds are not a good investment when interest rates are as high as they are now, when they are as low as 1-2% for example, and bonds are yielding maybe 4-5%..then of course they are a better investment,


 
Assuming you're talking about the ECB interste rate, you are wrong.  Interest rates are exceptionally low at present.


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## Sunny (6 Feb 2008)

Gautama said:


> Assuming you're talking about the ECB interste rate, you are wrong. Interest rates are exceptionally low at present.


 
'Exceptionally low' is exaggerating a bit surely. They are near enough to what the ECB consider neutral


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## tonster01 (8 Feb 2008)

Gautama said:


> Assuming you're talking about the ECB interste rate, you are wrong.  Interest rates are exceptionally low at present.



This was meant for illustrative purposes...it clearly says...for example...I didn't say I was basing this on current factual data, I was merely explaining what the post was asking!


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## Duke of Marmalade (8 Feb 2008)

Tonster,

Bond funds are absolute rubbish for all the reasons you intimate.

Low yielding secure assets without the guarantees!!

1% management charge -> average return of 3% is best to be hoped for.  5% one year deposit is 60% better!

Forget about bonds denominated in foreign currency - that brings a big FOREX risk.  FOREX risk is unlike equity risk - the latter should mean equities on balance should give a positive reward to compensate for the risk.  Not so FOREX.


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## Fisher Black (8 Feb 2008)

Bond Funds can produce good returns depending on the duration of the bond, the movements in interest rates, and how long the investor stays in the fund.

A Long Bond Fund would have performed quite nicely over the last six months due to the general fall in interest rates.

Eagle Star's Long Bond Fund is up 3.6% over the last six months to today...that's net of fund fees.


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## tonster01 (8 Feb 2008)

Harchibald said:


> Tonster,
> 
> Bond funds are absolute rubbish for all the reasons you intimate.



How do you come to this conclusion?? When interest rates are down, bond returns tend to increase...this negative correlation also works vice versa..

Was the question not:
When are bond funds a suitable investment?!?

My answer therefore is correct!


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## Duke of Marmalade (9 Feb 2008)

Bonds held to maturity yield 4% before charges.

If you know that long yields are going to fall there will be a short term capital gain which will be slowly eroded by the lower yield.

No way can you know long yields are goin' to fall. Long yields represent the market consensus on the long term prognosis for interest rates.


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## Fisher Black (9 Feb 2008)

The current yield on the 5.75% France Treasury Bond is 4.5% to maturity.

Corporate Bonds currently yield close to 5.7% if held to maturity.

*No way can you know long yields are goin' to fall. Long yields represent the market consensus on the long term prognosis for interest rates.* 

The prices of all financial instruments - be they equities, fixed interest, commodities etc... - represent market consensus on a number of long-term conditions (not just interest rates).


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## Gautama (10 Feb 2008)

Sunny said:


> 'Exceptionally low' is exaggerating a bit surely. They are near enough to what the ECB consider neutral


 
Well, the recent 2% base rate has always been described at "historically low", and when the the Federal Reserve's rate was at 1% (or was it 2%?) it was frequently described as being its lowest since the Kennedy era.

Compare this with "Ireland of the 80ies".


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## Duke of Marmalade (10 Feb 2008)

Fisher Black said:


> The prices of all financial instruments - be they equities, fixed interest, commodities etc... - represent market consensus on a number of long-term conditions (not just interest rates).


 
There is a huge difference between bonds and equities. The long term performance of equities is linked to economic performance. The long term performance of bonds is simply a mathematical unfolding of the interest rate.

In the short term bonds may rise or fall depending on long yields. But one shouldn't be buying any funds in the gamble for short term positives.

Fund investment is long term and in the long term current valuations of bonds cannot possibly deliver more than 4% - 4.5% less charges.

On the other hand, you wouldn't be locked up for suggesting that double digit returns are a good possibility for equities over the long term


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## Fisher Black (10 Feb 2008)

Bonds are a suitable investment for some part of an investor's portfolio at nearly all times - over the last six months they have proven a very suitable investment for most investors.

I am not speculating on how or when they can or will out-perform equities, I am responding to the OP's question "when are bonds a suitable investment".


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