Portfilio allocation to Bonds
Watching CNBC this morning and Jim Cramers mad money and he got talking about investing for your age.
Zero bonds under 25
In your 30's 10-20%
In your 40's 20-30%
In your 50's 30-40%
In your 60's 40-50%
When retired approx. 60-70%
Bond yields are pretty low but even so this approach seems to make prudent common sense to me.
He has a book out called Get Rich Carefully - pretty smart guy - anyone know where I can get a copy ?
To be honest this weeks political and geopolitical events have sharpened my focus on risk management.
Who knows what sort of Government we have coming soon or quite how things will play out with North Korea ?
Your thoughts on the above allocation strategy, make sense ?, what do you think Peat ?
The wisdom of Contact Energy bonds?
Quote:
Originally Posted by
peat
The thing about a good bond is that its top of the pecking order and so capital loss is almost a zero probability (well maybe not quite ) They should be better than bricks and mortar - they should be rock solid. Hence low returns are acceptable for that part of the portfolio because its actually more about capital preservation.
Peat, Contact 040 bonds are a BBB rated bond with a coupon rate of 4.63%. If I read the market price correctly you can buy them at a market coupon rate of 3.75%. IIRC a BBB rated company has a 1 in 30 chance of a severe capital stress event (going bust without a capital injection) each year. Let's say you are buying the bond in year zero for $10,000, are paying 30% tax, and want to hold for 30 years.
Your total expected income is: 30 x ( 0.0375 x 0.7 x $10,000 ) = $7,875m
After 30 years the chance your investment will still be intact is:
(29/30)^30 = 0.3617
This implies the chance of losing your investment is:
(1-0.3617) = 0.6383
Or in dollar terms your expected capital loss from business failure will be:
$10,000 x 0.6383 = $6383.00
I hope you can see that your expected after tax income barely covers your expected capital loss.
Can you see why I bought CEN shares yielding 6% gross return ahead of the bonds?
SNOOPY
The wisdom of Contact Energy bonds? (iteration 2)
Quote:
Originally Posted by
Paper Tiger
If the Bond is rated BBB then I understand that it mean than there is a 1 in 30 possibility, over the 'life' of the bond, that there will be a default on paying the interest or repaying the capital.
Looking at the Reserve Bank published pdf on credit ratings above. This says:
https://www.rbnz.govt.nz/-/media/Res...8179.pdf?la=en
Approx. probability of default over 5 years (The approximate, median likelihood that an investor will not receive repayment on a five-year investment on time and in full
based upon historical default rates published by each agency.) is '1 in 30'.
So let's look at a 5 year time horizon for Contact 040 bonds.
Let's say you are buying the bond in 'year zero' for $10,000, and are paying 30% tax.
Your total expected income over five years is: 5 x ( 0.0375 x 0.7 x $10,000 ) = $1,312.50
The chance your investment will still be intact after 5 years is 29/30.
This implies the chance of losing part of your investment is 1/30:
The worst case here, should Contact Energy fail, is that you will lose all of your investment. Your 'expected' capital loss in this worst case situation is therefore:
(1/30) x $10,000 = $333.33
Some might call that pessimistic. But even if you don't lose all your investment, a partial recovery of what is left might take years. So I think 'total loss' is the real world scenario you should plan for. So I would argue the expected return over five years is:
$1,312.50 - $333.33 = $979.17
This represents an annual net rate of:
($979.17 /5) / ($10,000) = 2%
Compare that with
1/ Buying the Contact shares at a 6% gross yield ( 4.2% net) on market ( approximately true with a $5.50 share price ) and
2/ The possibility of a capital gain from the shares
then the bonds look very unattractive as an 'income generating investment' and an investment in general.
SNOOPY