Bonds

“Exploiting the Presidential Cycle and Party in Power” summarizes strategies that hold small stocks (large stock or bonds) when Democrats (Republicans) hold the U.S. presidency. How has this strategy performed in recent years? To investigate, we consider three strategy alternatives using exchange-traded funds (ETF):

1. D-IWM:R-SPY: hold iShares Russell 2000 (IWM) when Democrats hold the presidency and SPDR S&P 500 (SPY) when Republicans hold it.
2. D-IWM:R-LQD: hold IWM when Democrats hold the presidency and iShares iBoxx Investment Grade Corporate Bond (LQD) when Republicans hold it.
3. D-IWM:R-IEF: hold IWM when Democrats hold the presidency and iShares 7-10 Year Treasury Bond (IEF) when Republicans hold it.

We use calendar years to determine party holding the presidency. As benchmarks, we consider buying and holding each of SPY, IWM, LQD or IEF and annually rebalanced portfolios of 60% SPY and 40% LQD (60 SPY-40 LQD) or 60% SPY and 40% IEF (60 SPY-40 IEF). We consider as performance metrics: average annual excess return (relative to the yield on 1-year U.S. Treasury notes at the beginning of each year); standard deviation of annual excess returns; annual Sharpe ratio; compound annual growth rate (CAGR); and, maximum annual drawdown (annual MaxDD). We assume portfolio switching/rebalancing frictions are negligible. Except for CAGR, computations are for full calendar years only. Using monthly dividend-adjusted closing prices for the specified ETFs during July 2002 (limited by LQD and IEF) through December 2023, we find that:

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Should investors consider portfolio volatility when choosing allocations to stocks and bonds in their retirement accounts? In his October 2023 paper entitled “Retirement Planning: The Volatility-Adjusted Coverage Ratio”, Javier Estrada introduces volatility-adjusted coverage ratio (VAC) as an alternative retirement portfolio metric. He defines this metric as coverage ratio (C, number of years of withdrawals supported relative to retirement period length) divided by annual portfolio volatility during retirement. He compares optimal stocks-bonds allocations for different fixed real annual withdrawal rates across 22 country markets and the world market using either C of VAC. For all markets and withdrawal rates, he uses historical returns for stocks and bonds with annual portfolio rebalancing and 30-year retirement periods. Using annual returns for stocks and bonds and annual inflation rates in the U.S. during 1872 through 2022 (Shiller data) and in 21 other countries during 1900 through 2019 (Dimson-Marsh-Staunton data), he finds that: Keep Reading

How do exchange-traded-funds (ETF) focused on Treasury Inflation-Protected Securities (TIPS) perform? To investigate, we consider ten of the largest TIP ETFs, all currently available, as follows:

• • iShares TIPS (TIP)
  • Schwab U.S. TIPS (SCHP)
  • Vanguard Short-Term Inflation-Protected Securities (VTIP)
  • iShares 0-5 Year TIPS (STIP)
  • SPDR Portfolio TIPS (SPIP)
  • FlexShares iBoxx 3-Year Target Duration TIPS Index (TDTT)
  • PIMCO 1-5 Year US TIPS Index (STPZ)
  • SPDR Bloomberg Barclays 1-10 Year TIPS (TIPX)
  • PIMCO 15+ Year US TIPS Index (LTPZ)
  • FlexShares iBoxx 5-Year Target Duration TIPS Index (TDTF)

As benchmarks, we consider iShares 1-3 Year Treasury Bond (SHY), iShares 3-7 Year Treasury Bond (IEI), iShares 7-10 Year Treasury Bond (IEF) and iShares 20+ Year Treasury Bond (TLT). To match duration of each TIPS ETF, we assign the one of these four benchmarks with the highest correlation of monthly returns. We focus on monthly return statistics, along with compound annual growth rates (CAGR) and maximum drawdowns (MaxDD). Using monthly returns for the 10 TIPS ETFs and the four benchmark ETFs as available, and concurrent monthly changes in the U.S. Consumer Price Index (CPI), through October 2023, we find that: Keep Reading

Is the the conventional retirement portfolio glidepath as recommended by many financial advisors, away from stocks and toward bonds over time, really optimal? In their October 2023 paper entitled “Beyond the Status Quo: A Critical Assessment of Lifecycle Investment Advice”, Aizhan Anarkulova, Scott Cederburg and Michael O’Doherty present a lifecycle income/wealth model using stationary block bootstrap simulations (average block length 120 months to preserve long-term behaviors) with labor income uncertainty, Social Security income, longevity uncertainty and historical monthly returns for stock indexes, government bonds and government bills across developed countries. They apply this model to estimate outcomes for several age-dependent, monthly rebalanced portfolios of stocks and bonds, including a representative target-date fund (TDF), as well as some fixed-percentage allocation strategies. They focus on a U.S. couple (a female and a male) who save during working years starting at age 25 and consume Social Security income and savings starting at age 65 with constant real 4% annual withdrawals. They evaluate four outcomes: (1) wealth at retirement; (2) retirement income; (3) conservation of savings; and, (4) bequest at death. Using monthly (local) real returns for domestic stock indexes, international stock indexes, government bonds and government bills as available for 38 developed countries during 1890 through 2019, they find that:

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Does a simple relative momentum strategy applied to tradable U.S. Treasury term structure proxies produce attractive results by picking the best duration for exploiting the current interest rate trend? To investigate, we run short-term and long-term tests. The short-term test employs five exchange-traded funds (ETF) to represent the term structure:

SPDR Barclays 1-3 Month T-Bill (BIL)
iShares 1-3 Year Treasury Bond (SHY)
iShares Barclays 3-7 Year Treasury Bond (IEI)
iShares Barclays 7-10 Year Treasury Bond (IEF)
iShares Barclays 20+ Year Treasury Bond (TLT)

The second test employs three Vanguard mutual funds to represent the term structure:

Vanguard Short-Term Treasury Fund (VFISX)
Vanguard Intermediate-Term Treasury Fund (VFITX)
Vanguard Long-Term Treasury Fund (VUSTX)

For each test, we allocate all funds at the end of each month to the fund with the highest total return over a specified ranking (lookback) interval, ranging from one month to 12 months. To accommodate the longest lookback interval, portfolio formation commences 12 months after the start of the sample. We focus on compound annual growth rate (CAGR) and maximum drawdown (MaxDD) as key performance metrics. Using monthly dividend-adjusted closing prices for BIL since May 2007, for IEI since January 2007, for SHY, IEF and TLT since July 2002 and for VFISX, VFITX and VUSTX since October 1991, all through September 2023, we find that: Keep Reading

Do target retirement date funds, offering glidepaths that shift asset allocations away from equities and toward bonds as target dates approach, safely generate attractive returns? To investigate, we consider seven such mutual funds offered by Vanguard, as follows:

• • Vanguard Target Retirement 2020 Fund (VTWNX)
  • Vanguard Target Retirement 2025 Fund (VTTVX)
  • Vanguard Target Retirement 2030 Fund (VTHRX)
  • Vanguard Target Retirement 2035 Fund (VTTHX)
  • Vanguard Target Retirement 2040 Fund (VFORX)
  • Vanguard Target Retirement 2045 Fund (VTIVX)
  • Vanguard Target Retirement 2050 Fund (VFIFX)

We consider as benchmarks SPDR S&P 500 ETF Trust (SPY), iShares iBoxx $ Investment Grade Corporate Bond ETF (LQD) and both 80-20 and 60-40 monthly rebalanced SPY-LQD combinations. We look at monthly and annual return statistics, including compound annual growth rate (CAGR) and maximum drawdown (MaxDD). Using monthly total returns for SPY, LQD, three target retirement date funds since October 2003 and four target retirement date funds since June 2006 (limited by Vanguard inception dates), all through September 2023, we find that:

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The “Simple Asset Class ETF Value Strategy” (SACEVS) seeks diversification across a small set of asset class exchanged-traded funds (ETF), plus a monthly tactical edge from potential undervaluation of three risk premiums:

1. Term – monthly difference between the 10-year Constant Maturity U.S. Treasury note (T-note) yield and the 3-month Constant Maturity U.S. Treasury bill (T-bill) yield.
2. Credit – monthly difference between the Moody’s Seasoned Baa Corporate Bonds yield and the T-note yield.
3. Equity – monthly difference between S&P 500 operating earnings yield and the T-note yield.

Premium valuations are relative to historical averages. How might this strategy react to changes in the Effective Federal Funds Rate (EFFR)? Using end-of-month values of the three risk premiums, EFFR, total 12-month U.S. inflation and core 12-month U.S. inflation during March 1989 (limited by availability of operating earnings data) through September 2023, we find that: Keep Reading

Are the “Simple Asset Class ETF Value Strategy” (SACEVS) and the “Simple Asset Class ETF Momentum Strategy” (SACEMS) mutually diversifying. To check, based on feedback from subscribers about combinations of interest, we look at three equal-weighted (50-50) combinations of the two strategies, rebalanced monthly:

1. 50-50 Best Value – EW Top 2: SACEVS Best Value paired with SACEMS Equally Weighted (EW) Top 2 (aggressive value and somewhat aggressive momentum).
2. 50-50 Best Value – EW Top 3: SACEVS Best Value paired with SACEMS EW Top 3 (aggressive value and diversified momentum).
3. 50-50 Weighted – EW Top 3: SACEVS Weighted paired with SACEMS EW Top 3 (diversified value and diversified momentum).

We consider as a benchmark a simple technical strategy (SPY:SMA10) that holds SPDR S&P 500 ETF Trust (SPY) when the S&P 500 Index is above its 10-month simple moving average and 3-month U.S. Treasury bills (Cash, or T-bills) when below. We also test sensitivity of results to deviating from equal SACEVS-SACEMS weights. Using monthly gross returns for SACEVS, SACEMS, SPY and T-bills during July 2006 through July 2023, we find that: Keep Reading

Do exchange-traded funds (ETF) that hold convertible corporate bonds offer attractive performance? To investigate, we compare performance statistics for the following four convertible bond ETFs, all currently available, to those for a monthly rebalanced 60%-40% combination of SPDR S&P 500 ETF Trust (SPY) and iShares iBoxx $ Investment Grade Corporate Bond ETF (LQD):

1. SPDR Bloomberg Convertible Securities ETF (CWB)
2. iShares Convertible Bond ETF (ICVT)
3. First Trust SSI Strategic Convertible Securities ETF (FCVT)
4. American Century Quality Convertible Securities ETF (QCON)

We focus on average return, standard deviation of returns, reward/risk (average return divided by standard deviation of returns), compound annual growth rate (CAGR) and maximum drawdown (MaxDD), all based on monthly data. Using monthly dividend-adjusted returns for all specified ETFs since inceptions and for SPY and LQD over matched sample periods, all through July 2023, we find that: Keep Reading

What conditions affect the correlation between stock and bond returns, a critical input to asset allocation decisions? In their July 2023 paper entitled “Empirical Evidence on the Stock-Bond Correlation”, Roderick Molenaar, Edouard Senechal, Laurens Swinkels and Zhenping Wang relate changes in this correlation to economic variables and analyze the implications of such changes for stock-bond portfolios. They employ rolling 36-month Spearman rank correlations for stock market and 10-year government bond returns to detect correlation changes. While considering longer periods, they focus on post-1952 monthly and post-1978 daily U.S. data (after Federal Reserve independence) as most representative of the future. Using stock and bond returns and economic data starting 1875 for the U.S., 1801 for the UK, 1871 in France and 1987 for Canada, Germany, Italy and Japan, all through 2021, they find that:

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