View Full Version : US downgrade and YMOYL
I can't believe nobody has brought this up yet.US debt is the backbone of the YMOYL program.Are you second guessing that strategy now?Where's junkman and bae? I'd like to hear what they think,as well as others.
Let's keep the politics out of this discussion.It doesn't matter who is to blame for this.We have to deal with what is.
I'd be interested in hearing you elaborate on why you think US debt is the backbone of the YMOYL program? I think I know, but I'd like to hear it from you. Not interested in politics either.
ApatheticNoMore
8-8-11, 1:06pm
Why does it matter? Yes if you are holding bonds for the short term or in a bond fund a rise in interest rates could hurt you. But not if you are holding them until maturity.
Do you really believe the U.S. is going to default on it's debt? The U.S. could only default by choosing to do so. The U.S. has unlimited money printing power and thus never HAS to default, although of course this is not without possible inflationary consequences. If you are worried the U.S. political system is so messed up we will choose default, I can't entirely blame you.
Now if you are worried about inflation and the interest on Treasuries not keeping up with inflation, well I think that has been a valid criticism for years! And the inability to balance the budget further DOES increase the risk of that. It increases the risk of monetizing the debt (printing money to pay the debt basically), we're already doing it.
It is only one rating agency that downgraded U.S. debt and remember these rating agencies are so unreliable that they were giving junk mortgage debt great ratings, they will forever be notorious for that, they enabled the last bubble from which we may never recover. Not that a downgrade in the U.S. debt is like "way to go, U.S.A., I'm proud to be an American!!!!". But there is context. Perhaps the concern is more rating agencies will follow if the existing problems continue.
puglogic,I don't understand your question.Read ch.9 of YMOYL.
ApatheticNoMore,"Why does it matter?" In 2009 the US had to use 20% of every revenue dollar received to service the debt.
I don't know what the figures will be for 2011,but with the economy as bad as it is,I would say that the 20% figure may be on the conservative side.With the downgrade it will cost the US more to service the debt.I'm of the opinion that "possible inflationary consequences",to be a likely outcome.
For me, the "backbone" of YMOYL isn't chapter 9. It is an overall strategy of money awareness, living within your means, proper and prudent spending habits, high priority on savings, and the lack of personal debt. Yes, treasury bills are its investment recommendations, but as it's been years now since I've had any expectation of the sweet yields discussed in YMOYL v1.0, I'm more diversified than the book recommends on that score.
Yes, our debt situation sucks. The political gridlock that keeps it from being solved intelligently sucks. The predominant attitude about savings/debt in this nation sucks. But YMOYL is still sound advice for anyone, using common sense as one's guide.
In a related, but broader (read: less voluntary) sense I think there are going to be a lot of newbies trying to live simply in the next year or so. The S&P downgrade of US debt is having a rather extreme effect on global markets right now (DOW down close to 500 again). Yes, equities are overselling and some folks are going to get very rich off the inevitable bounce, but that group will not include everyone who's 401k's just got hammered again. YMOYL is kind of like planting a tree. The old question of when is the best time to plant one? Twenty years ago. The book and the program it presents are as valid as ever and may benefit more people than ever due to current circumstances. I just worry about the folks crashing right now viewing it as some kind of quick fix. In the bigger arena, allowing a situation to unfold in which our debt was downgraded is criminal, but I'll jump back over to SPP to have that discussion.
I can't believe nobody has brought this up yet. US debt is the backbone of the YMOYL program. Are you second guessing that strategy now? Where's junkman and bae? I'd like to hear what they think,as well as others.
cx3,
As puglogic notes,
...the "backbone" of YMOYL isn't chapter 9. It is an overall strategy of money awareness, living within your means, proper and prudent spending habits, high priority on savings, and the lack of personal debt. Yes, Treasury bills are its investment recommendations, but as it's been years now since I've had any expectation of the sweet yields discussed in YMOYL. Joe --bless his well-intended heart-- gave very bad advice on two things: the viability of a Treasuries-only investment plan and the insignificance of inflation. What matters with any investment isn't its nominal yield, but its yield after expenses, taxes, inflation, and customary losses have been subtracted. In other words, its your appreciated (or preserved, or conserved) purchasing-power that matters. In Joe's days, following on Paul Volker's increases in interest-rates, he was able to grab long-dated, high-yielding Treasuries that offered a rare combo of safety and profitability after taxes and inflation. For lots of reasons, mostly political ones, that situation no longer is true, as you can see from pulling a chart for the 10-year Treasury note.
Interest-rates have fallen in the past several days due to panic buying and a "flight to quality". That's good for them who already own those types of bonds, bad for them that don't. That's good for them that anticipated such a move, bad for them that didn't, which raises this basic question: "What is my investment plan?" "Do I blindly follow what Joe suggested (and what worked for him), or do I look beneath and behind his words to his intentions and then formulate a plan that is appropriate to my own, present conditions?"
Contrary to all conventional wisdom, I run an all-bond portfolio. No stocks, no currencies, no commodities, just bonds of six types: Treasuries, Agencies, Corporates, Munis, Converts, and Foreign Sovereigns. I shift my buying (and, recently, some selling) among them as opportunities change. I've done well with the asset-class, and I'd like to claim it was skill. But, in truth, I've mostly been very, very lucky. I was able to catch the latter half of a fabulous bull market for bonds. (Go to Yahoo Finance and pull a MAX chart for the long bond. How could anyone not have made good-enough money in such an environment?)
But nowadays, as Bond King Bill Gross has been arguing for several months, in the low interest and increasing inflation environment in which we find ourselves, risk-adverse fixed-income investors need to do two things: extend maturities and take on credit-risk. But that is exactly what they are unwilling (or unable) to do, because they have no experience with managing the associated risks. So, they are damned if they do, and damned if they don't, which is an appropriate fate for their lack of planning and practice, which is all that investing amounts to. Practice, practice, practice. Investing is a less-than-zero-sum gambling game which most players will lose, because they are unwilling to make the effort, and to take the risks, that learning the game requires. It took me nearly 15 years of fumbling around, trying this and that, before I elbowed my into the bond market and began pulling more money out of it than I was bringing to it. That was nearly eleven years ago, and I haven't looked back. I like bonds. I understand bonds, and the bond market, in turn, has been kind to me. But I'm also putting in 20 hours a week (on average) doing my thinking, planning, scanning, vetting, and back-office work, week after week, year after year, good markets and bad, because I'm in this for the long haul. Investing is my "day job", not just a sideline hobby.
How far down will stock prices and bond yields fall this time? Who knows? But at some point, it will become obvious that bargains have been created that should be bought, and that's when I go back to buying. Meanwhile, I sit on the sidelines and do my thinking and planning. Practice, practice, practice. Them that do it tend to get good at doing it, just as with any other sport. Talent matters, but prep matters more.
Charlie
http://finance.yahoo.com/echarts?s=^TYX+Interactive#symbol=^tyx;range=my;co mpare=;indicator=volume;charttype=area;crosshair=o n;ohlcvalues=0;logscale=off;source=;
Charlie, where would an ignorant, but willing & capable newbie start learning about the various bond types you mention? What would the training-wheels publications/sites be? I'm always interested in learning something new, especially if it might be a good skillset to have.
I think there is a lot more being worried about than the downgrade - it's not like people were fleeing treasuries today, actually the opposite.
Charlie, where would a .... newbie start learning about the various bond types you mention?
Your local library would be a good place to begin looking for introductory books on bond investing, and if a book you want isn't on their shelves, they can borrow it for you through Inter Library Loan. As to which titles to look for, that's a matter of personal preference. All of them are going to say mostly the same things and explain mostly the same concepts. But of the half dozen or so there are, my two favorites are Sharon Saltziger Wright's, Getting Started in Bonds (either edition, used copies of which are available from Amazon), and Marilyn Cohen's books, of which her most recent is probably the better. The two look at the bond market very differently and engage it differently. So reading both, several times, pencil and calculator in hand, is a good place to start. This isn't to say that either are tough, heavily-mathematicized reading (which you do run into with professional literature). But you do need to understand basic terms and know how to calculate YTM, YTC, YTW, YTS, etc. on your own, as well as set up spreadsheets so you can evaluate zeros, multi-steps, etc.
The basic thought that underlies all bond investing is this: "What are my risks, and am I being properly compensated for accepting them?" Therefore, a lot of bond investing is comparison shopping, which you've gotta be able to do fast before the opportunity disappears. How do you find the opportunities? With a bond-search engine, such as any reputable bond broker will provide, of which there are really only two: E*Trade and Zions Direct. Fidelity has better commissions, as does Interactive Brokers, but neither provide the breadth of inventory that ET and ZD do. Vanguard sucks all around, as does Scottrade, Schwab, and AmeriTrade. (I have, or had, accounts with them, as well as other bond brokers.) Due to the fact that only grandfathered accounts at E*Trade can download a search result into Excel, the place where you should set up an account is ZD (who does allow a free, 30-day demo.)
The upside of bonds, versus stocks, is that they are puts. The downside of bonds, versus stocks, is that you pay a huge premium for that feature. In other words, if you buy the common and the debt of the same issuer on the same day and then exit both at maturity, you can expect the common to have about a 3.5x gains advantage over the debt, albeit with far greater volatility. So the question you need to ask yourself is this: "Do you want to eat well, or to sleep well?" This isn't to say that you can't achieve returns of 30%, 60%, 100% on specific bond positions. But you aren't going to be pulling down that kind of money across a properly-diversified bond portfolio. Something closer to 8%-13%, on average and over the long haul, really does define the upper limit of what is possible. If that's good enough, then that's good enough, and you can sidestep a lot of the nonsense and chaos that goes with stock investing. E.g, on a day like today when stocks dropped 5.5% or so, I might be down by a few basis points. But when the opposite happens, and stocks jump up by that same 5.5%, I get slammed hard. So the question you have to ask yourself is this: "Which losses am I willing to tolerate, and for what reasons?" because losses are going to happen in either case. The question is "How big will they be, and how recoverable are they?" Stock-investing worries me too much to do it well. Bonds I understand. Therefore, I don't panic and do something I might regret later.
The way to learn bond investing is to do bond investing, going into the market on a daily basis, seeing what's happening and then engaging it or backing away. Screen time, lots and lots of screen time, so that bond shopping becomes as easy and familiar as buying bell peppers or broccoli. But, also, bond investing is a mind set that is different than stock investing. Bond investors are worriers. Stock investors are optimists. So you've gotta match your personality to the type of investing you do. Also, bond investing tends to be obscenely capital intensive. Commission are atrocious. Spreads are abusive. Purchase-minimums can be prohibitive. Historical data is nearly non-existent. Illiquidity is rampant. Etc., etc. In short, bond investing is not an easy gig. It takes toughness and determination if you intend to match the best of the best of the pros. But it can be done. Were I a publicly traded mutual fund, I would rank in the top 5% of the 200 bond fund mangers with the same investment objective, multi-sector bonds. So why not just buy the top fund? Because when the bond market tanks, their shareholders yank money, setting up the fund for under-performance, and when the bond market is roaring, shareholders throw more money at managers than they can responsibly put to work, setting up further under-performance. But the two bond fund companies and fund managers you need to track are Bill Gross of PIMCO and Danial Fuss of Loomis Sayles, not that they aren't good people at other bond fund shops. But tracking those two and trying to think like they do is a good thing to do.
Good luck with the project.
junkman,
wanted to say thank you for again sharing your hard-earned wisdom. Another reason these boards are a special place.
flowerseverywhere
8-8-11, 8:58pm
cx3,
As puglogic notes, Joe --bless his well-intended heart-- gave very bad advice on two things: the viability of a Treasuries-only investment plan and the insignificance of inflation. What matters with any investment isn't its nominal yield, but its yield after expenses, taxes, inflation, and customary losses have been subtracted. In other words, its your appreciated (or preserved, or conserved) purchasing-power that matters. In Joe's days, following on Paul Volker's increases in interest-rates, he was able to grab long-dated, high-yielding Treasuries that offered a rare combo of safety and profitability after taxes and inflation. For lots of reasons, mostly political ones, that situation no longer is true, as you can see from pulling a chart for the 10-year Treasury note.
You have given great information, and your investment strategy is interesting but not for everyone. What I think about Joe D's investing was that his strategy was not for a lot of people because he was investing for very different purposes. He had no children, lived in shared housing, and did not live in our time of escalating out of control health insurance and medical costs. It was wonderful for him but not for everyone.
Mangano's Gold
8-8-11, 10:08pm
In 2009 the US had to use 20% of every revenue dollar received to service the debt.
I don't know what the figures will be for 2011,but with the economy as bad as it is,I would say that the 20% figure may be on the conservative side.With the downgrade it will cost the US more to service the debt.I'm of the opinion that "possible inflationary consequences",to be a likely outcome.
Hello cx3, I think you bring up a good point about YMOYL. Joe D develpoed his program at a good time for treasuries, and the subsequent 20+ years have proven him much more right than wrong. I have no opinion on interest rates for the next 20+ years, but I'm baised towards a regression to the mean. Take that for what it's worth.
As for the US spending 20% of xxxx towards debt service, beware of the information wars. In fiscal 2010, net interest on the debt was $197 billion, or 1.4% of GDP (~$14 trillion). This is roughly the equivalent of a person earning $50,000 per year paying $700 per year in interest. $700 isn't zero, but it also isn't going to push someone into bankruptcy. The concern is that the base driving the $700, and the blended interest rate (currently rather-low), are going to grow faster than the $14 trillion.
http://www.cbo.gov/doc.cfm?index=11999&zzz=41471
Mangano's Gold
8-8-11, 10:14pm
Hey junkman, CNBC reported today that stocks of Dow companies with lower bond ratings got hit harder than those with higher ratings. They didn't say what happened to the bonds (nor did I look). Do you think we are in a bad enviroment for anything but the highest-rated bonds? In bond-parlance, what about the spreads between Junk and AAAAAAA+?
I agree - the main lesson I took from YMOYL (which I first read about 10 years ago) was to keep costs down and to save, not necessarily to slavishly follow his investment advice. I've done reasonably well at the former, but not always so well at the latter due to income fluctuations. (Over the past 7 years, for one reason or another, we've spent more time on one income than two, and generally not high incomes at that).
Both of us are gainfully employed right now, but we are paying a high price for it personally as it means a "commuter marriage". But given the job market, either one of us quitting work is a Big Step and not one to take lightly. We have very diversified portfolios with higher-than-typical bond exposure. We also have a lot of cash (or cash-equivalents) on hand: enough to pay expenses for a full year, including ongoing medication costs. Our net worth is not where I'd like it to be, but it's far better than most and we have no debt whatsoever. Not even a mortgage (we both rent - makes more sense given our frequent work moves).
junkman,
wanted to say thank you for again sharing your hard-earned wisdom. Another reason these boards are a special place.
Don't be too quick to thank me. What I said isn't 1/10th of 1% of what needs to be said about bond investing. But the point should have emerged is this. Almost no one appreciates the serious money that can be made from bond investing, because they treat the asset-class like the after-thought it is for most investors, something they feel they should do, like flossing their teeth, but something they are willing to skip.
On a risk-adjusted basis, no asset-class will out-perform another, otherwise the arbs would step in and capture the inefficiency. But that's exactly what people always forget when they sneer at bond returns and tout stocks as the heart of any portfolio, namely, that reward is proportional to risk, and that stocks, on average, pay better than bonds, because they are riskier on average than bonds. But within bonds as an asset-class, just as within stocks as an asset-class, there is a huge range of risk and return, and a very robust, very profitable portfolio can be constructed with just bonds by pushing the risk limits when and where appropriate.
Sometime, when you're truly bored, look up the returns offered by long Treasury zeros in '95. (Hint: about 54%.) That is serious money. Ditto the returns offered some years by other segments of the bond market. The money can be fabulous if the opportunity presents itself, and the money can be totally miserable when the market is over-bought and/or under stress as it currently is. So you take the good with the bad. But right now, bonds are where I prefer to be. Today's market move down probably wiped out any gains the average stock investor made this year, but my guess is that I'll tag something in the range of 12% to 16% for the year, even carrying as much cash as I currently am. That's not the 33.4% I made in 2009, but it's better than the -20.8% loss I suffered in 2008 (compared to the average stock investor's -40%). So that's what I see as the advantage of bonds over stocks: less downside with, sometimes, a very decent upside PROVIDED you accept the risks that have to be accepted and managed them properly. Otherwise, you're going to get killed and/or make nothing at all, as CD buyers are currently doing. After paying taxes and subtracting for inflation, they aren't even preserving their purchasing-power. That's not investing. That's squandering capital which wasn't what Joe was advocating. What he was saying was this: "Why go looking for trouble if you don't need to?" For him, at that time, treasury bonds paid well and served his needs. Today, I'm sure he would make different choices, just as each of us must if we are going to survive the 10-15 year depression that lies ahead of us.
Can't happen here? Won't happen here? Don't kid yourself. The US is doing everything Japan did, and 20 years later their economy and markets still haven't recovered. Welcome to the "New Normal"!
Hello cx3, I think you bring up a good point about YMOYL. Joe D develpoed his program at a good time for treasuries, and the subsequent 20+ years have proven him much more right than wrong. I have no opinion on interest rates for the next 20+ years, but I'm biased towards a regression to the mean. Take that for what it's worth.
As for the US spending 20% of xxxx towards debt service, beware of the information wars. In fiscal 2010, net interest on the debt was $197 billion, or 1.4% of GDP (~$14 trillion). This is roughly the equivalent of a person earning $50,000 per year paying $700 per year in interest. $700 isn't zero, but it also isn't going to push someone into bankruptcy. The concern is that the base driving the $700, and the blended interest rate (currently rather-low), are going to grow faster than the $14 trillion.
http://www.cbo.gov/doc.cfm?index=11999&zzz=41471
Though the 30 Dow stocks represent something like 70% of the stock market's capitalization, they are still just 30 companies of the nearly 7,000 that are traded on the three major exchanges and not very representative of broad, credit-spread trends. In fact, from the same wire services you quote, I saw an article aguing that junk bonds did very well today. So the real answer to your question is "It all depends".
I don't trade credit-spreads. Heck, I don't even track them. That's a game for the big boys who play for mere basis points so as to gain a march on their competitors. Obviously, I buy a big slug of less than invest-grade debt. I have to, or else inflation would kill me. But I try to pick my issuers carefully. I tend to be very long-dated. And I tend to hold to maturity. So the present chaos is mostly a rainy day for me rather than a never-ending season. ("This, too, shall pass", right?)
As a concrete example of some recent buying (the past two months), here's some exploring I've done in utility munis, one of which is clearly very speculative: http://boards.fool.com/charlie-can-you-give-me-some-utility-muni-bonds-29463109.aspx
As for the US spending 20% of xxxx towards debt service, beware of the information wars. In fiscal 2010, net interest on the debt was $197 billion, or 1.4% of GDP (~$14 trillion). This is roughly the equivalent of a person earning $50,000 per year paying $700 per year in interest. $700 isn't zero, but it also isn't going to push someone into bankruptcy. The concern is that the base driving the $700, and the blended interest rate (currently rather-low), are going to grow faster than the $14 trillion.
http://www.cbo.gov/doc.cfm?index=11999&zzz=41471Actually, according to other sources, net interest for 2010 was a mere $185 billion, which is exactly why those Washington spendthrifts (and the complicit public) don't take it seriously. But the CBO projects 2011 Federal revenues to be $2.2 trillion. Let's trend the cost of interest to $200 billion, which makes it a mere 9% of revenues. But since 2011 Federal spending is projected to be a whopping $3.8 trillion, the cost of interest is money this country doesn't have. So its cost isn't affordable no matter how the numbers are spun or what they are compared to, which shouldn't be GDP, given that is a totally bogus number fabricated by the same Bureau of Economic Propaganda that produces the CPI numbers (aka, the BLS).
Sometime, when you're truly bored, go to John William's website or to dshort.com, both of whom take the BLS to task for garbage it produces for the self-serving purpose of keeping the Ponzi scheme going. This country is broke, and no one cares enough to fix the underlying problem of spending beyond its means.
i've completely ignored the investment section of YMOYL.
i have learned how to live more simply, how to save, getting out of debt, etc. I only have law school debt left. I am working hard to be rid of it. Nearly there, nearly there.
I did use the investment advice of YMOYL. However, I did so back in 2007, when the interest rates were quite nice at 6% on CDs. and Bonds 30 year were respectable. Of course I got into the Bonds late and only have some 30 year bonds. But our spending from year to year has gone down so I can claim a negative 4% of spending, which equates to a positive 8.5 to 9% interest rate of return. Maybe more.
I would love to get into Australian government bonds but have been hesitant to do so. They are still doing pretty well as their economy is doing well. But I am so risk adverse a person that it might be tough for me to get into it. However, maybe checking out Zions Direct and getting into small amounts of their bond auctions might be a way to slowly move into higher risk. I will not get into Stocks as I see no point to it anymore.
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