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How to analyze when to cash out on a bond portfolio

Hi guys,

With interest rate heading down now, if you hold a portfolio of bonds that were purchased a while back, one may consider cashing out in the near future.

For starters, how would you approach this project? Should I start collecting consensus data on interest rate outlook (the logic is to recommend cashing out when interest rate bottoms out)?

Also, I should consider the maturities of my portfolio holdings. Should I sell the longer maturity ones as they are the ones that appreciated the most due to the curve inversion?

Then after I cash out, which bonds should I switch into (shorter termed bonds since they have a higher yield now)?

Appreciate your thoughts.

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As a general starting point:

Riding the yield curve in up and down markets:
https://www.nuveen.com/riding-the-yield-curve-in-up-and-down-markets

Problem is that in the current crazy environment with negative yields all these strategies don’t really work anymore. (I have read this morning that currently a total of $17 trillion of sovereign debt yielding a negative interest rate are outstanding plus an additional $1 trillion in corporate debt.)

We are in the midst of a gigantic experiment and there are no proven historical strategies on how to make money with fixed-income other than pure speculation.

Regards,
Oscar

Thanks Oscar.

So I suppose the decision should still be based on yield curve forecasts, which would require a view from the manager.

Yes, it should still be based on the yield curve forecast. The problem is that it is currently very difficult to predict what might happen in the future. On one side the bond market is super-inflated but on the other side central banks might continue to fuel markets with unlimited money worsening the situation even more.

It is hard to predict what will happen, especially with the world economy moving into a recession scenario. As an example: Just look at the heavy forward curve movements within the last 3 months e.g. 6m LIBOR.

There might still be strategies to make money riding the yield curve selling bonds at a higher price as the yield sinks. However, very dangerous if the music stops playing. Another strategy is to borrow at one side of the yield curve and simultaneously lend at the other side, trying to make some profit. This strategy is however also risky and impossible to implement as a private investor.

What worries me more is that the current situation does not fit to any finance theory. There is no cost of money anymore and this has consequences far beyond the bond market as it affects everything - from equity to insurance and real estate markets and ultimately society.

Just an example: In Denmark you can now get 10 yr. mortgages with negative interest rates, meaning you lend 100% and pay back 98%. Crazy!

Regards,
Oscar

imo its much simpler. rates are ultra low, and they dont remain this low for a long time historically as well. there maybe 1 or 2 instance in the last 200 years, and the the worst one was no more than 5 years where they remained low. so i would get rid of any long term bonds which appreciated the most in value, and yield very lil when compared to the price that you can sell it for. id buy short term bonds, unless you find better deals in other investmetns. 

also i read an article on the denmark mortgages. apparently they charge fees on those mortgages which means that the borrow still pays more. they arent really receiving money. also keep in mind that the banks that lend are also borrowing at negative rates, so they are just passing it along and collecting the fees. still ****ty for a bank though imo!

https://finance.yahoo.com/news/americans-are-trying-to-get-denmarks-negative-mortgages-143832101.html

I love my cheese. I got to have my cheddar.

Nerdyblop wrote:

imo its much simpler. rates are ultra low, and they dont remain this low for a long time historically as well. there maybe 1 or 2 instance in the last 200 years, and the the worst one was no more than 5 years where they remained low. so i would get rid of any long term bonds which appreciated the most in value, and yield very lil when compared to the price that you can sell it for.

All good, but you are speculating against the current forward curve, which inverted heavily in the last months. Maybe you are right, but increasing mid-term yields are not market consensus… And you could also argue that we are getting into a situation like in Japan. Yields there are low since 30 years.

i agree anything can happen. and you are right it is a speculation against the market consensus’s yield curve. but i have seen the yield curve using 50 years of data albeit i guess that can still be arguably defined as a myopic view. but market consensus dictated those yield curves as well, yet they always quickly reverted, so i do not see why that wouldnt be  the case now. in any case, i have no money on this. 

lastly people always say that past performance is not indicative of future results. but i would rather bet on past performance than think something new will happen. show me a poor person who got poorer by 30, and i am willign to bet he will remain poor for the rest of his life as oppose to someone who got richer by 30. 

the japan thing is an excellent rebuttal though. i am surprised and astounded at how neutered they got post since 2000. would not have been able to guess that. hence why that trade is known as the widowmaker. great name, honestly can be the king joffrey’s beautiful sword.

I love my cheese. I got to have my cheddar.

Thanks guys and you all have made valid points. 

At this point I am certain the decision is to sell some bonds, the question is which ones and why. And logically speaking the longer termed bonds should have appreciated more, hence selling them will make the biggest impact on the books. Now if I want said gains booked within this year’s results then I gotta sell in the next few months. So with market consensus at two more cut rates this year, I should look to sell at say December? Otherwise, perhaps some time within Q1 2020.

Just thinking out loud here.