April 27, 2020: Total Return Bond Funds & Portfolios

Apr 28, 2020 | Asset-Allocation, Bonds, Economy, Feature, Gold, Headline, Income, Investments, IRA, Markets, Mutual-Funds, Newsletter, Retirement

 

Re-balance Cycle Reminder All MyPlanIQ’s newsletters are archived here.

Regular AAC (Asset Allocation Composite), SAA and TAA portfolios are always rebalanced on the first trading day of a month. the next re-balance will be on Friday May 1, 2020.

Please note: As of March 1, 2020, we officially phased out our old rebalance calendar for both SAA and TAA. They are now always rebalanced on the first trading day of a month. 

As a reminder to expert users: advanced portfolios are still re-balanced based on their original re-balance schedules and they are not the same as those used in Strategic and Tactical Asset Allocation (SAA and TAA) portfolios of a plan.

Total Return Bond Funds & Portfolios

We have featured and monitored our total return bond fund portfolios for about 10 years now. These portfolios are listed on our Fixed Income page. In light of the recent volatile events in financial markets, it’s a good time to review the latest performance of the candidate funds and the portfolios. 

Total return bond mutual funds

Our fixed income portfolios are based on the momentum fund selection strategy utilized in MyPlanIQ portfolios. Every month, the strategy chooses a fund with the highest momentum score among a list of candidate funds. In the event that all of the candidate funds have negative momentum scores, cash or money market fund is chosen. The candidate funds are total return bond funds (and some intermediate term corporate bond funds) whose managers have been named at least once as Fixed Income Manager of The Year by Morningstar. These funds should be no-load (or load waived), no transaction fee in a brokerage. For example, the following are the candidate funds for Schwab Total Return Bond:

PBDAX PIMCO Investment Grade Corp Bd A
PDBZX Prudential Total Return Bond Z
PONAX PIMCO Income A
DLTNX DoubleLine Total Return Bond N
WABRX Western Asset Core Bond R
TGMNX TCW Total Return Bond N
PTTAX PIMCO Total Return A
MWTRX Metropolitan West Total Return Bond M
LSBRX Loomis Sayles Bond Retail

All of them are available in Schwab as no load and no transaction fee. In general, these funds are retail class shares so that they have a ver low minimum (such as $1000 to $3000). Furthermore, our strategy automatically enforces the minimum holding period and round trip limit restriction imposed by a brokerage. Most funds do have three month minimum holding period requirement. 

The rationale to only use total return bond funds managed by great managers is that excellent fixed income manager tend to have a sustainable outperformance track record and thus their funds are more suitable for a momentum based strategy. 

Let’s first look at these funds’ recent performance: 

As of 4/24/2020:
Fund YTD
Return**		 1Yr AR 3Yr AR 5Yr AR 5Yr Sharpe 10Yr AR 15Yr AR
PBDAX (PIMCO Investment Grade Corp Bd A) -2.1% 5.9% 4.0% 3.7% 0.57 5.4% 6.0%
PDBZX (Prudential Total Return Bond Z) -0.4% 6.5% 4.4% 3.6% 0.66 4.9% 5.4%
PONAX (PIMCO Income A) -6.6% -2.7% 1.6% 3.2% 0.69 6.7%  
DLTNX (DoubleLine Total Return Bond N) -0.2% 3.5% 3.0% 2.5% 0.64 5.1%  
WABRX (Western Asset Core Bond R) 2.0% 7.9% 4.4% 3.3% 0.65    
TGMNX (TCW Total Return Bond N) 5.5% 10.6% 4.9% 3.4% 0.72 4.8% 5.6%
PTTAX (PIMCO Total Return A) 3.8% 9.2% 4.6% 3.2% 0.62 3.8% 4.9%
MWTRX (Metropolitan West Total Return Bond M) 4.4% 11.5% 5.3% 3.6% 0.79 4.8% 5.5%
LSBRX (Loomis Sayles Bond Retail) -10.5% -5.8% -1.0% 0.2% -0.1 3.4% 4.8%
DODIX (Dodge & Cox Income) 2.1% 7.6% 4.6% 3.7% 1 4.4% 4.9%
VBMFX (Vanguard Total Bond Market Index Inv) 5.1% 11.3% 5% 3.5% 0.72 3.8% 4.3%

1 Year Total Return Chart:

Unfortunately, YTD (Year To Date), other than TGMNX, all other funds underperformed VBMFX, the total bond market index fund. In particular, Loomis Sayles fund LSBRX was hit hardest, losing -10.5% this year, while PIMCO’s two corporate bond centric funds: PIMCO investment grade corporate bond fund PBDAX and PIMCO Income fund PONAX also suffered from some substantial loss in March this year. The main culprit here is their outsized exposure to high yield bonds (LSBRX) and even investment grade corporate bonds (PBDAX and PONAX) while VBMFX has a very large exposure in Treasury bonds. In fact, if the Federal Reserve didn’t intervene bond markets in the unprecedented way (buying Treasury, investment grade corporate bonds and now even buying high yield bond ETFs), these funds would have experienced even more serious losses and might not recover so quickly. 

The current crisis also caused most of these excellent funds to lag behind the index fund VBMFX for the past 1 and 3 years. Most of them now have similar 5 year returns compared with VBMFX. However, majority of them still outperform VBMFX in a longer period such as 10 years or 15 years time frame. 

What we can learn from this crisis is that other than Treasury bonds, all other debts can be severely impacted in a crisis. Bonds as ‘safe’ asset class are not as safe as one would expect. Furthermore, regardless how safe a fund is or how excellent a fund manager is, there should be a fail safe mechanism in a portfolio to switch to safer investments or cash in the event of severe downturn. Currently, though the Federal Reserve’s unconventional intervention has been able to avoid the severe bond market crisis for now, whether that can sustain remains to be a question as the fundamentals for underlying businesses have been damaged and are now weak. 

The performance of total return bond portfolios 

The following major brokerage specific portfolios are very similar: 

Portfolio Performance Comparison (as of 4/24/2020):
Ticker/Portfolio Name YTD
Return**		 1Yr AR 3Yr AR 5Yr AR 10Yr AR 15Yr AR
Schwab Total Return Bond 3.5% 12.0% 6.1% 5.2% 6.6% 7.8%
Fidelity Total Return Bond 3.5% 12.0% 5.7% 4.7% 6.3% 7.4%
Vanguard Brokerage Total Return Bond 3.5% 12.0% 6.1% 5.2% 6.6% 7.9%
Etrade Total Return Bond -5.4% 2.3% 3.0% 3.3% 5.5% 7.2%
Merrill Edge Total Return Bond 3.5% 12.0% 6.1% 4.6% 7.5% 7.3%
PTTRX (PIMCO Total Return Instl) 3.8% 9.6% 5.0% 3.6% 4.2% 5.3%
DLTNX (DoubleLine Total Return Bond N) -0.2% 3.5% 3.0% 2.5% 5.1%  
VBMFX (Vanguard Total Bond Market Index Inv) 5.1% 11.3% 5.0% 3.5% 3.8% 4.3%

The following chart shows the total returns since 2001:

A few comments: 

  • All of the portfolios have outperformed VBMFX for the past 10 years, 15 years and since 2001. For the past 15 years, the annualized excessive returns of these portfolios over VBMFX are up to 3.9%. The Etrade portfolio, even after this year’s underperformance, still had 2.9% excessive annualized return over VBMFX (7.2% vs. 4.3%) for the past 15 years. 
  • In fact, other than the Etrade portfolio, all other portfolios have outperformed for 1, 3, 5, 10, 15 years and since 2001. 
  • The portfolios did worse year to date. The worst is Etrade portfolio that lost -5.4% up to now.

A closer examination reveals that Etrade portfolio’s candidate funds have MWTRX missing. This is because MWTRX is not available as a no transaction fee (NTF) fund in Etrade. The following chart compares the historical holdings of both Schwab Total Return Bond and the Etrade portfolio: 

We can see that until 3/22/2020, both portfolios had the exact same holding (PBDAX) since 4/22/2019. In the rebalance on 3/2/2020, Schwab portfolio switched its holding to MWTRX. Since MWTRX is not available in Etrade as an NTF fund, the portfolio had to wait till the next rebalance on 4/1/2020 to switch its holding to TGMNX. Unfortunately, this one month delay proved to be costly: PBDAX suffered from a large loss in March because of the wide spread pessimism on investment grade corporate bonds. 

Notice that MWTRX had year to date return 4.4%, just behind TGMNX and is the second highest among the total return bond funds listed in the previous table. 

The above example shows the sensitivity of candidate funds. However, the long term outperformance over bond index funds has been so great such that the recent underperformance in the Etrade portfolio seems to be still limited. 

Short term trading restriction for mutual fund (401k) portfolios

The following question posted by a user might be of interests to many mutual fund portfolio users, in particular 401k portfolios. 

Question: Many 401k plans have minimum 30 day holding period for mutual funds. Some of them also have round trip trading limit. Since February only has 28 days (or at most 29 days in a leap year), it’s likely to have issues if there is a rebalance at the end of February. How to handle this? 

Answer: In the case when a 30 day thing is violated, it’s really a case by case decision to decide whether you want to postpone the rebalance a few days later (that’s really only for Feb.) and hope there won’t be another dramatic rebalance in March. 

Other practical thing is that: if it’s not a dramatic equity/bond allocation change, you can always wait it out without much performance impact: for example, if a rebalance calls for changing from an equity fund A to another equity fund B, you can always wait for a few days if 30 day restriction is still in effect. Similarly, bond to bond change can be a bit lax.

The only combination case that one really needs to care is for equity to bond rebalance (just like in the end of Feb. this year): for that, you have to make a case by case decision to decide to go for the rebalance on the exact date or to postpone for two days. 

By the way, even if you are denied to invest in a particular fund for a year, you can always find a substitute in most cases to invest. The return effect should be minimal as long as the major stock/bond allocations are maintained. 

Market overview

It seems like people are getting more anxious and somewhat optimistic on reopening economy, judging from stock market behavior: stocks are hanging around the recent high levels. Some states like Georgia and Texas have opened or planned to open part of their economy. We are, however, more cautious on the following two counts: first, as we stated before, even in the most optimistic scenario, it will still take several more months for the economy to be fully open. We believe, by that time, global and the US economy will be materially impaired to the extent it takes time to recover. This is because the shut down damages many businesses and supply chains in an already debt heavy corporate environment. The damages will further cloud businesses’ outlook that in turn will affect business growth planning. 

Secondly, though investors seem to totally write off the previous quarter earnings: based on Factset, with 24% of the companies in the S&P 500 reporting actual results, the blended (actual and expected) earnings for Q1 now stands on -15.8%. Since many companies withdrew their next quarter or this year’s earnings projections, investors are somewhat relying on a more subjective guess on this year’s earnings growth (which analysts now expect -15.2% decline for 2020 full year). For now, it looks like investors are mostly pinning hope on 2021’s strong recovery to justify current hefty stock valuation.  It’s very likely any further disruption on the pandemic side such as vaccination delay, cure development hiccups and second wave of the pandemic will destabilize this market. 

Regardless of our subjective opinions, we shall stick to our strategies and act accordingly. This means: 

  • For strategic allocation (buy and hold) investors, ignore the current market behavior. Remember, as what we have emphasized numerous times, when you choose and commit to a strategic portfolio, you essentially know and commit that your investment horizon (or the time you need to utilize this capital) is 20 years or longer. As we pointed out, if your investments are those diversified (index) funds such as an S&P 500 index fund (VFINX, for example), you know your money is in some solid ‘business’ that eventually (20 years later) will deliver some reasonable returns. As long as you are comfortable with this thesis, you should sit tight and forget about the current gyration.
  • For tactical investors, again, you have to ignore the current market noise. Furthermore, you should follow your strategy rigorously, especially in a time like this. Human emotion, both optimistic and pessimistic, and human desire, both greedy and fearful, are your worst enemies. This has been shown to be true time and time again.

For more detailed current market trends, please refer to 360° Market Overview.

In terms of investments, stocks are somewhat cheaper. Investors should not be swayed by the current market volatility and economic distress, instead, they should stand ready to take advantage of the opportunities. For most Americans, we offer the following Winston Churchill’s remark made in the darkest days of World War II: “The Americans will always do the right thing, but only after they have tried everything else.” As a country, the US (and the rest of the world) will get over this, as always, even after stumbles. The past development has been very supportive to our optimistic long term view so far. 

We again would like to stress for any new investor and new money, the best way to step into this kind of markets is through dollar cost average (DCA), i.e. invest and/or follow a model portfolio in several phases (such as 2 or 3 months) instead of the whole sum at one shot.

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