Bond Investing’s Portfolio Tips From Sue Stevens
Having trouble figuring out the best strategy for your bond investing venture? Well, there are experts in the arena that could pretty well help you…
Sue Stevens, director of financial planning at Morningstar, have some vital portfolio tips that could save you from dreadful bond investing pitfalls along the way. In an edition of his company’s Reader Mailbag, he responded to a number of queries involving maximum levels of portfolio overlap, how to gain access to funds with high minimum investment amounts, the ongoing value of bonds, and fixed-income diversification.
Stevens has these essential investing tidbits to share…Hot and scorching, the questions got timely answers from the finance guru:
Limiting Stock Intersection
Q: As I continue to build and maintain my portfolio, I am concerned about stock intersection. Is there a recommended percentage of overlap that I should strive to stay below?
A: I usually target 10% as a high watermark for any one stock. Most of the time, I’ll be below 5%. But sometimes when someone has a large percentage of company stock, we have to gradually move toward those lower targets. The higher the percentage, the more risk you are assuming.
Circumventing High Minimum Investments
Q: I’ve noticed that you sometimes write about institutional funds like Dimensional International Small Cap Value. When I’ve looked them up through Morningstar Quicktakes, I see minimum investments of $2,000,000…not exactly affordable for most of us. How are these funds available?
A: These types of funds are available with much lower minimums (usually a couple thousand dollars) if you are working through an advisor. But not all advisors can offer these funds. Typically the advisor must be approved by the fund company to be able to purchase those institutional share classes. The advisor would purchase these funds through the custodians they have master accounts with. Advisors are also free to negotiate lower brokerage fees with custodians (like Schwab, Fidelity, and T.D. Waterhouse).
Questioning the Value of Bonds
Q: Everything I have been reading suggests that because of anticipated increases in interest rates, bonds will lose value in the future. We have approximately 30% of our retirement portfolio in bonds and will be retiring within the next several months. Does that high of an allocation still make sense?
A: Just because interest rates are rising doesn’t mean you shouldn’t own or hold bonds. With a little bit of detective work, you can figure out about how much your bonds are likely to decrease as interest rates rise. By holding shorter-term bond funds, you can minimize losses in your portfolio. Read Bond-Fund Basics to learn how to determine a bond’s duration–the key to knowing how it will react when interest rates change. If you hold bond funds, you may see your interest increase as rates rise. This increase in yield may help make up for any loss in value.
Right now, my advice is to know what you own. Check the length to maturity or the duration of your bonds. Try to stay shorter term (five years and under). Avoid most long-term bonds (10 years and over) for now. Once interest rates have stabilized (perhaps early next year), consider moving from shorter-term bonds to intermediate-term bonds (five to 10 years until maturity) to increase your yield.
While I can comment on why you should hold bonds in your pre-retirement portfolio, I can’t comment on whether allocating 30% of your assets to bonds is appropriate. Depending on your risk tolerance and time horizon, that may be too little, too much, or just right.
