Here's a statement of the obvious: The opinions expressed here are those of the participants, not those of the Mutual Fund Observer. We cannot vouch for the accuracy or appropriateness of any of it, though we do encourage civility and good humor.
Support MFO
Donate through PayPal
vanguard Wellesley An Exceptional Conservative Mutual Fund Hidden In Plain Sight
No question it's a good fund, although I'm not sure all-seasons is correct. It might not work so well in a rising rate environment that punishes income oriented funds.
Though this study seems to promote the author's brand funds (Vantage Point Funds) it also provides a good overview of how different Income Assets historically behavior during rising interest rate environments.
A solid piece, pretty much textbook (longer duration = greater loss with rising rates, junk = less sensitive to rates).
A few curiosities:
It is interesting to note that contrary to conventional wisdom, all fixed income sectors experienced positive returns during the four rate hikes.
I thought conventional wisdom said that historically NAV losses were more than compensated for by high coupons. Vanguard certainly makes this point in writing that buying bond funds in rising rate environments can still be profitable. (Not checking for citation now.)
The problem is that with interest rates at historical lows, the coupons will likely not fully mitigate capital losses. The Vantage Point article alludes to this as well: "it is possible that the next upturn in rates would not result in positive returns for fixed income sectors due to unique factors, which may not have been present in the last four rate hikes."
It gives as its rationale for not studying rising rate periods earlier than 1986 that "many fixed income sectors did not exist prior to 1986." So presumably it excludes securitized assets prior to the 1999 period of rising rates for the same reason. Yet MBSs (a major portion of secutized assets) certainly did exist then. FMSFX dates to 12/31/1984 and VFIIX got its start 6/27/1980.
It explains that in the fourth rising rate period it studied, intermediate term bonds (actually aggregate bond portfolios) outperformed short term bonds in part because "short-term rates [rose] much more than longer-term rates, as shown by the flattening of the yield curve ". These days, there's not much more flattening to be had. Just a ¾% difference between a 3 month T-bill and a 30 year T-bond. Short term rates could again rise faster than long term rates, but that would result in an inversion not a flattening.
Also, the examples provided didn't go back prior to 1986. (I find the reasoning for this--that some fixed income categories didn't exist prior to 1986--a bit dubious, but nevertheless.) I believe most of the rate increases after that period were gradual and modest ones allowing fixed income to catch up with its yield payments to compensate for losses. The real test would be a period of rapid rate and inflation increases like in the 1970s--what is known as a "rate shock." I doubt Wellesley income or many funds to be honest would hold up too well in such a period. Also, because rates are so low now, as has already been pointed out, a small increase actually can be more significant. Going say from a 0.25% rate to 0.50% is actually a doubling of rates. That is more uncharted territory. Also, income-oriented stocks that Wellesley owns might do particularly poorly in a rate shock environment because unlike bonds they essentially have an infinite duration as they never mature. Then again, they could do better if they have a growth component to compensate for rising rates. It's hard to predict how it would do. Yet here is some useful information: https://sec.gov/Archives/edgar/data/105544/0000893220-95-000089.txt If you go to page 6, you can see how Wellesley performed in the 1970s. Other than 1973 and 1974, it held up pretty well. So there's that. I wonder how it would do in a rate shock today when we're starting from such low rates.
Lewis makes an excellent point about percentage change in rates (e.g. a change from 0.25% to 0.50% is a doubling). Since you'll get the face value of a bond back at maturity, the market price of a bond won't be cut by anything near a half. Still, you'll take quite a haircut if rates double.
A 30 year bond with a coupon of 0.25% will lose nearly 7% (6.96%) so that its yield to maturity (YTM) matches the new market rate of 0.50%.
In contrast, a 30 year bond with a coupon of 4.00% will lose "just" 4.22% given the same 0.25% increase in market rates. So at "normal" rates, you'd just about break even (interest minus capital loss) in a year's time.
Comments
Rising Interest Rates: Impact on Fixed Income
Though this study seems to promote the author's brand funds (Vantage Point Funds) it also provides a good overview of how different Income Assets historically behavior during rising interest rate environments.
One of many charts in the attached article:
https://screencast.com/t/VoK0BcUrr
https://www.icmarc.org/x3333.html?RFID=W1582&usg=AOvVaw2I9Vd-WRuW_zIiwp1pxMzJ
A solid piece, pretty much textbook (longer duration = greater loss with rising rates, junk = less sensitive to rates).
A few curiosities:
- It is interesting to note that contrary to conventional wisdom, all fixed income sectors experienced positive returns during the four rate hikes.
- It gives as its rationale for not studying rising rate periods earlier than 1986 that "many fixed income sectors did not exist prior to 1986." So presumably it excludes securitized assets prior to the 1999 period of rising rates for the same reason. Yet MBSs (a major portion of secutized assets) certainly did exist then. FMSFX dates to 12/31/1984 and VFIIX got its start 6/27/1980.
- It explains that in the fourth rising rate period it studied, intermediate term bonds (actually aggregate bond portfolios) outperformed short term bonds in part because "short-term rates [rose] much more than longer-term rates, as shown by the flattening of the yield curve ". These days, there's not much more flattening to be had. Just a ¾% difference between a 3 month T-bill and a 30 year T-bond. Short term rates could again rise faster than long term rates, but that would result in an inversion not a flattening.
.I thought conventional wisdom said that historically NAV losses were more than compensated for by high coupons. Vanguard certainly makes this point in writing that buying bond funds in rising rate environments can still be profitable. (Not checking for citation now.)
The problem is that with interest rates at historical lows, the coupons will likely not fully mitigate capital losses. The Vantage Point article alludes to this as well: "it is possible that the next upturn in rates would not result in positive returns for fixed income sectors due to unique factors, which may not have been present in the last four rate hikes."
If you go to page 6, you can see how Wellesley performed in the 1970s. Other than 1973 and 1974, it held up pretty well. So there's that. I wonder how it would do in a rate shock today when we're starting from such low rates.
A 30 year bond with a coupon of 0.25% will lose nearly 7% (6.96%) so that its yield to maturity (YTM) matches the new market rate of 0.50%.
In contrast, a 30 year bond with a coupon of 4.00% will lose "just" 4.22% given the same 0.25% increase in market rates. So at "normal" rates, you'd just about break even (interest minus capital loss) in a year's time.
Calculator for bond price given coupon and market rates:
https://dqydj.com/bond-pricing-calculator/