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The Wall Street Journal had an article on May 31st titled “The 100% Stock Solution” that talked about investors who had their entire portfolio in invested in stocks.
I believe the article accurately outlined the advantages and limitations of having 100% of your investments in stocks but unfortunately they missed an essential question, “How does the makeup of the investment portfolio compare to the makeup of the rest of a person’s total financial picture?”
For example: one of my clients is a tenured college professor with a great pension that will provide more than enough income for his lifestyle. If he wanted to, his portfolio could be 100% in stocks because a) his pension provides the stability that would normally come from bonds and b) if his portfolio rises or falls in any given year it doesn’t really matter because he’s not likely to take any money out in order to fund his lifestyle.
On the opposite end of the spectrum is someone like myself. I’m self employed with no pension and my income has historically risen and fallen with the health of the economy (very similar in that aspect to stocks).
I need my investment portfolio to be heavily weighted towards bonds to provide the predictability and balance to my unpredictable income. (Not to mention security if something happened to my health and there was no income at all.)
But what about all the headwinds facing bonds such as potentially rising interest rates, low yields, inflation, etc.? Just as a stock portfolio is made up of more than just the S&P 500, my bond portfolio is made up of more than just the Barclays Bond Index:
- U.S. dollar denominated international bond fund
- I don’t like to have all of my money tied to the U.S. economy
- I’ve found the U.S. dollar denominated international bond funds tend to be less volatile with similar if not better returns than international bond funds based in local currencies.
- High quality U.S. corporate bond fund
- Good times or bad this delivers steady but never fantastic returns.
- U.S. mortgage bond fund holding both agency and non-agency mortgages
- Stock like returns without stock like volatility
- Individual U.S. corporate bonds
- When you own an individual bond you know (barring bankruptcy) exactly when you will get paid and what you will earn.
- Currently my individual bonds are almost all rated below investment grade and based on today’s pricing will likely be called away in about a year with a yield to call of 5% or greater.
- High yield U.S. corporate bond fund
- High yield bond funds are much more sensitive to the economy than to interest rates.
- I own both individual high yield bonds and high yield bond funds because the funds can buy bonds that you and I can’t due to their size while at the same time some of the individual bonds trade in such small sizes to make it impractical for the larger bond funds to deal with.
- High quality state and federal tax free bond fund
- High yield state and federal tax free bond fund
- High yield and high quality. One provides more income and one provides more stability.
