Re-evaluating Total World Bond (BNDW)?

Discuss all general (i.e. non-personal) investing questions and issues, investing news, and theory.
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

vineviz wrote: Mon Feb 22, 2021 1:26 pm
watchnerd wrote: Mon Feb 22, 2021 11:17 am I hear hand-waving talk about "diversification", but that either comes down to differences in credit quality, interest rate risk, or volatility. All of those attributes can be replicated in US bonds to whatever mix one likes.

Geo-political risk or fiscal policy differences is probably a real diversifier, but that is also going to manifest as differences in one of the above, along with exchange rates...which will be hedged away.
The diversification benefits aren't "hand-waving talk", and they can't be replicated using only US bonds.
Which diversification benefit can't be replicated?

Duration / Interest Rate Risk - Yes, pick any duration tilt you like

Quality - Yes, pick any quality tilt you like

Currency - No, but we hedged it out
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
vineviz
Posts: 14921
Joined: Tue May 15, 2018 1:55 pm
Location: Baltimore, MD

Re: Re-evaluating Total World Bond (BNDW)?

Post by vineviz »

watchnerd wrote: Mon Feb 22, 2021 1:18 pm
Steve Reading wrote: Mon Feb 22, 2021 11:42 am
Most importantly, we all, in aggregate, hold the market portfolio, including BNDX's bonds. So the average investor should and does hold BNDX's bonds.
You lost me.

How do I hold the market portfolio in bonds?
They aren't saying that EVERY investor owns BNDX's bonds, just that the AVERAGE investor (or, representative investor if you prefer) does.

I don't agree with including "should" in this context, by the way, except in the sense that it MUST be true that the average investor owns these bonds.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
User avatar
vineviz
Posts: 14921
Joined: Tue May 15, 2018 1:55 pm
Location: Baltimore, MD

Re: Re-evaluating Total World Bond (BNDW)?

Post by vineviz »

watchnerd wrote: Mon Feb 22, 2021 1:29 pm
vineviz wrote: Mon Feb 22, 2021 1:26 pm
watchnerd wrote: Mon Feb 22, 2021 11:17 am I hear hand-waving talk about "diversification", but that either comes down to differences in credit quality, interest rate risk, or volatility. All of those attributes can be replicated in US bonds to whatever mix one likes.

Geo-political risk or fiscal policy differences is probably a real diversifier, but that is also going to manifest as differences in one of the above, along with exchange rates...which will be hedged away.
The diversification benefits aren't "hand-waving talk", and they can't be replicated using only US bonds.
Which diversification benefit can't be replicated?

Duration / Interest Rate Risk - Yes, pick any duration tilt you like

Quality - Yes, pick any quality tilt you like

Currency - No, but we hedged it out
We've covered this ground already: those aren't the only possible dimensions of difference.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

vineviz wrote: Mon Feb 22, 2021 1:33 pm
watchnerd wrote: Mon Feb 22, 2021 1:29 pm
vineviz wrote: Mon Feb 22, 2021 1:26 pm
watchnerd wrote: Mon Feb 22, 2021 11:17 am I hear hand-waving talk about "diversification", but that either comes down to differences in credit quality, interest rate risk, or volatility. All of those attributes can be replicated in US bonds to whatever mix one likes.

Geo-political risk or fiscal policy differences is probably a real diversifier, but that is also going to manifest as differences in one of the above, along with exchange rates...which will be hedged away.
The diversification benefits aren't "hand-waving talk", and they can't be replicated using only US bonds.
Which diversification benefit can't be replicated?

Duration / Interest Rate Risk - Yes, pick any duration tilt you like

Quality - Yes, pick any quality tilt you like

Currency - No, but we hedged it out
We've covered this ground already: those aren't the only possible dimensions of difference.
And I'm not convinced that the remainders, such as geo-political risk or policy differences, don't manifest as differences in one of the other factors

--Currency
--Interest rate risk
--Quality

Are you asserting there is a hidden unique, undiscovered factor in international bonds that isn't manifested in one of the above?
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
Steve Reading
Posts: 2959
Joined: Fri Nov 16, 2018 9:20 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by Steve Reading »

watchnerd wrote: Mon Feb 22, 2021 1:29 pm Which diversification benefit can't be replicated?

Duration / Interest Rate Risk - Yes, pick any duration tilt you like
The one above, obviously. If I have BND, then it is sensitive to changes in intermediate-term US interest rates. If those go up, say, 1%, my bond portfolio loses about 7%.

You can decrease that risk by shortening duration but then you don't actually have the duration you intended and, just as relevant, that comes with lower returns.

Instead, you can diversify into BNDX, holding both BND and BNDX and the same ~7 year duration. This gives you roughly the same expected return as before but now your bond portfolio only loses 7% if US ITT rates go up AND the ex-USA ITT rates go up. This is clearly less likely than either one happening so diversification, like always, is maintaining an expected return but actually lowering risk.
"... so high a present discounted value of wealth, it is only prudent for him to put more into common stocks compared to his present tangible wealth, borrowing if necessary" - Paul Samuelson
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

Steve Reading wrote: Mon Feb 22, 2021 1:43 pm
watchnerd wrote: Mon Feb 22, 2021 1:29 pm Which diversification benefit can't be replicated?

Duration / Interest Rate Risk - Yes, pick any duration tilt you like
The one above, obviously. If I have BND, then it is sensitive to changes in intermediate-term US interest rates. If those go up, say, 1%, my bond portfolio loses about 7%.

You can decrease that risk by shortening duration but then you don't actually have the duration you intended and, just as relevant, that comes with lower returns.

Instead, you can diversify into BNDX, holding both BND and BNDX and the same ~7 year duration. This gives you roughly the same expected return as before but now your bond portfolio only loses 7% if US ITT rates go up AND the ex-USA ITT rates go up. This is clearly less likely than either one happening so diversification, like always, is maintaining an expected return but actually lowering risk.
I have to use BND?

There is a multitude of choices to get whatever duration / quality mix in US bonds I want.

The rest of the argument is about arbitrage between varying country interest rates, which comes back to currency hedging again...
Last edited by watchnerd on Mon Feb 22, 2021 1:53 pm, edited 1 time in total.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
vineviz
Posts: 14921
Joined: Tue May 15, 2018 1:55 pm
Location: Baltimore, MD

Re: Re-evaluating Total World Bond (BNDW)?

Post by vineviz »

watchnerd wrote: Mon Feb 22, 2021 1:46 pm
Steve Reading wrote: Mon Feb 22, 2021 1:43 pm
watchnerd wrote: Mon Feb 22, 2021 1:29 pm Which diversification benefit can't be replicated?

Duration / Interest Rate Risk - Yes, pick any duration tilt you like
The one above, obviously. If I have BND, then it is sensitive to changes in intermediate-term US interest rates. If those go up, say, 1%, my bond portfolio loses about 7%.

You can decrease that risk by shortening duration but then you don't actually have the duration you intended and, just as relevant, that comes with lower returns.

Instead, you can diversify into BNDX, holding both BND and BNDX and the same ~7 year duration. This gives you roughly the same expected return as before but now your bond portfolio only loses 7% if US ITT rates go up AND the ex-USA ITT rates go up. This is clearly less likely than either one happening so diversification, like always, is maintaining an expected return but actually lowering risk.
I have to use BND?

There is a multitude of choices to get whatever duration in US bonds I want.
But they are all still US bonds, which are tied to the US Treasury yield curve. The US Treasury yield curve doesn't shift in lockstep with the yield curve for Japanese bonds, or French bonds, or German bonds.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

vineviz wrote: Mon Feb 22, 2021 1:51 pm
But they are all still US bonds, which are tied to the US Treasury yield curve. The US Treasury yield curve doesn't shift in lockstep with the yield curve for Japanese bonds, or French bonds, or German bonds.
But now you're just back to currency effects again.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
Steve Reading
Posts: 2959
Joined: Fri Nov 16, 2018 9:20 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by Steve Reading »

watchnerd wrote: Mon Feb 22, 2021 1:46 pm
Steve Reading wrote: Mon Feb 22, 2021 1:43 pm
watchnerd wrote: Mon Feb 22, 2021 1:29 pm Which diversification benefit can't be replicated?

Duration / Interest Rate Risk - Yes, pick any duration tilt you like
The one above, obviously. If I have BND, then it is sensitive to changes in intermediate-term US interest rates. If those go up, say, 1%, my bond portfolio loses about 7%.

You can decrease that risk by shortening duration but then you don't actually have the duration you intended and, just as relevant, that comes with lower returns.

Instead, you can diversify into BNDX, holding both BND and BNDX and the same ~7 year duration. This gives you roughly the same expected return as before but now your bond portfolio only loses 7% if US ITT rates go up AND the ex-USA ITT rates go up. This is clearly less likely than either one happening so diversification, like always, is maintaining an expected return but actually lowering risk.
I have to use BND?

There is a multitude of choices to get whatever duration / quality mix in US bonds I want.
Who cares what you hold? Aren't you asking about the diversification benefits of Ex-US bonds, and claiming they can be replicated with USD bonds? I literally gave you an example where they can't. Give a counterexample:

Tell us how a typical BH 3-Fund user can "diversify" the interest rate risk (holding duration and expected return constant) of their bond holdings using only USD bonds, the way someone buying some BNDW can. You claim it can be done.
watchnerd wrote: Mon Feb 22, 2021 1:54 pm
vineviz wrote: Mon Feb 22, 2021 1:51 pm
But they are all still US bonds, which are tied to the US Treasury yield curve. The US Treasury yield curve doesn't shift in lockstep with the yield curve for Japanese bonds, or French bonds, or German bonds.
But now you're just back to currency effects again.
No, interest rate changes have nothing to do with currency exchange changes. If German bond rates go to -100% tomorrow, BNDX will explode up in price and BND will feel nothing at all. And currency-hedging has nothing to do with it.
"... so high a present discounted value of wealth, it is only prudent for him to put more into common stocks compared to his present tangible wealth, borrowing if necessary" - Paul Samuelson
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

Steve Reading wrote: Mon Feb 22, 2021 1:57 pm
No, interest rate changes have nothing to do with currency exchange changes. If German bond rates go to -100% tomorrow, BNDX will explode up in price and BND will feel nothing at all. And currency-hedging has nothing to do with it.
Huh?

Of course they do.

Capital inflows are absolutely affected by interest rates, which affect currency exchange demand for a currency.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

Steve Reading wrote: Mon Feb 22, 2021 1:57 pm
Tell us how a typical BH 3-Fund user can "diversify" the interest rate risk (holding duration and expected return constant) of their bond holdings using only USD bonds, the way someone buying some BNDW can. You claim it can be done.
Why are we restricting the audience to only 3 fund users?

I never claimed anything relative to 3 fund users in the entire thread.

And, as I am not one myself, I have no dog in that particular fight.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
vineviz
Posts: 14921
Joined: Tue May 15, 2018 1:55 pm
Location: Baltimore, MD

Re: Re-evaluating Total World Bond (BNDW)?

Post by vineviz »

watchnerd wrote: Mon Feb 22, 2021 1:58 pm
Steve Reading wrote: Mon Feb 22, 2021 1:57 pm
No, interest rate changes have nothing to do with currency exchange changes. If German bond rates go to -100% tomorrow, BNDX will explode up in price and BND will feel nothing at all. And currency-hedging has nothing to do with it.
Huh?

Of course they do.

Capital inflows are absolutely affected by interest rates, which affect currency exchange demand for a currency.
You realize that relative bond yields aren't the ONLY thing affecting exchange rates, right?
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

vineviz wrote: Mon Feb 22, 2021 2:10 pm
watchnerd wrote: Mon Feb 22, 2021 1:58 pm
Steve Reading wrote: Mon Feb 22, 2021 1:57 pm
No, interest rate changes have nothing to do with currency exchange changes. If German bond rates go to -100% tomorrow, BNDX will explode up in price and BND will feel nothing at all. And currency-hedging has nothing to do with it.
Huh?

Of course they do.

Capital inflows are absolutely affected by interest rates, which affect currency exchange demand for a currency.
You realize that relative bond yields aren't the ONLY thing affecting exchange rates, right?
Of course.

But they do matter.

And the yield differences are lessened by hedging.

To quote Vanguard themselves:

"Additionally, by hedging the currency exposure of an international bond investment, the yield becomes less meaningful as a driver of total return, particularly when interest rate differentials between countries are large."

So, again...we're back to currency hedging.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
Steve Reading
Posts: 2959
Joined: Fri Nov 16, 2018 9:20 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by Steve Reading »

watchnerd wrote: Mon Feb 22, 2021 1:58 pm
Steve Reading wrote: Mon Feb 22, 2021 1:57 pm
No, interest rate changes have nothing to do with currency exchange changes. If German bond rates go to -100% tomorrow, BNDX will explode up in price and BND will feel nothing at all. And currency-hedging has nothing to do with it.
Huh?

Of course they do.

Capital inflows are absolutely affected by interest rates, which affect currency exchange demand for a currency.
Even if relative changes in interest rates did affect currency exchanges immediately (they don't), it doesn't matter because BNDX is currency-hedged. BNDX's price moves with Ex-USA interest rates. USD bonds move with USA interest rates. These are different interest rates so they are subject to different sources of interest rate risk. Holding both diversifies your interest rate risk vs holding only one of them. You cannot diversify the interest rate risk of USD bonds with USD bonds, just think about it.
watchnerd wrote: Mon Feb 22, 2021 2:01 pm
Steve Reading wrote: Mon Feb 22, 2021 1:57 pm
Tell us how a typical BH 3-Fund user can "diversify" the interest rate risk (holding duration and expected return constant) of their bond holdings using only USD bonds, the way someone buying some BNDW can. You claim it can be done.
Why are we restricting the audience to only 3 fund users?

I never claimed anything relative to 3 fund users in the entire thread.

And, as I am not one myself, I have no dog in that particular fight.
You said the interest rate diversification (which is the biggest diversification benefit BNDX offers IMO) can be replicated with USD bonds. I said that's false, and gave you an example to prove it. If it were true that such a benefit can be replicated with USD bonds, then feel free to show how.
"... so high a present discounted value of wealth, it is only prudent for him to put more into common stocks compared to his present tangible wealth, borrowing if necessary" - Paul Samuelson
SemiRetire
Posts: 152
Joined: Fri Dec 20, 2019 4:44 pm

Re: Re-evaluating Total International Bond (BNDW)?

Post by SemiRetire »

Ocean77 wrote: Fri Feb 19, 2021 1:02 pm The bond portion of my portfolio is already split between US treasuries and emerging market government bonds. My impression is that emerging markets such as China are actually more responsible and conservative with their spending and fiscal policies and the US and many other developed countries (which operate like the US, if not worse). Not to mention that interest rates in China and other EM are still positive. I think if we want to diversify, then the the asset being added should really be different than the one we already have.
I dont know if OP thinks it might be worthwhile, but I think all replies such as this may be useful to state if the bond fund is hedged or unhedged for currency exposure?
GAAP
Posts: 2556
Joined: Fri Apr 08, 2016 12:41 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by GAAP »

watchnerd wrote: Mon Feb 22, 2021 11:17 am Geo-political risk or fiscal policy differences is probably a real diversifier, but that is also going to manifest as differences in one of the above, along with exchange rates...which will be hedged away.
That depends upon how rapidly the bad stuff happens. 1917 provides a fairly clear example in Russia -- things were fine and then they weren't. I personally am not willing to bet that "normal market forces" will reliably deal with abnormal events.
“Adapt what is useful, reject what is useless, and add what is specifically your own.” ― Bruce Lee
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

Steve Reading wrote: Mon Feb 22, 2021 2:18 pm

Even if relative changes in interest rates did affect currency exchanges immediately (they don't), it doesn't matter because BNDX is currency-hedged. BNDX's price moves with Ex-USA interest rates. USD bonds move with USA interest rates. These are different interest rates so they are subject to different sources of interest rate risk. Holding both diversifies your interest rate risk vs holding only one of them. You cannot diversify the interest rate risk of USD bonds with USD bonds, just think about it.
Your example was specifically about a large interest rate delta between US and Germany.

Vanguard themselves say hedging makes interest differentials less meaningful.

I don't know what to tell you as you seem to be claiming something Vanguard isn't.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

GAAP wrote: Mon Feb 22, 2021 2:24 pm
watchnerd wrote: Mon Feb 22, 2021 11:17 am Geo-political risk or fiscal policy differences is probably a real diversifier, but that is also going to manifest as differences in one of the above, along with exchange rates...which will be hedged away.
That depends upon how rapidly the bad stuff happens. 1917 provides a fairly clear example in Russia -- things were fine and then they weren't. I personally am not willing to bet that "normal market forces" will reliably deal with abnormal events.
There are plenty or recent abnormal crises to look at: Asian currency crisis, Argentine defaults, etc.

How did those geo-political / fiscal policy issues not manifest as (admittedly rapid and short term chaotic) changes in price, quality, etc?
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
Steve Reading
Posts: 2959
Joined: Fri Nov 16, 2018 9:20 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by Steve Reading »

watchnerd wrote: Mon Feb 22, 2021 2:26 pm
Steve Reading wrote: Mon Feb 22, 2021 2:18 pm

Even if relative changes in interest rates did affect currency exchanges immediately (they don't), it doesn't matter because BNDX is currency-hedged. BNDX's price moves with Ex-USA interest rates. USD bonds move with USA interest rates. These are different interest rates so they are subject to different sources of interest rate risk. Holding both diversifies your interest rate risk vs holding only one of them. You cannot diversify the interest rate risk of USD bonds with USD bonds, just think about it.
Your example was specifically about a large interest rate delta between US and Germany.

Vanguard themselves say hedging makes interest differentials less meaningful.

I don't know what to tell you as you seem to be claiming something Vanguard isn't.
No Vanguard isn't saying what you think they're saying. See:
https://institutional.vanguard.com/VGAp ... IntlYields

First they post your quote:
Additionally, by hedging the currency exposure of an international bond investment, the yield becomes less meaningful as a driver of total return, particularly when interest rate differentials between countries are large.
Then they go on to say:
By including an allocation to international bonds, TDF investors are able to diversify their bond exposure across more than 40 yield curves versus a single U.S. yield curve. They also gain exposure to a greater number of securities (7,000-plus), countries (40-plus), and economic and inflation environments than they would have with a TDF composed purely of U.S. bonds.

This broad exposure is important, as the factors that drive international bond prices are relatively uncorrelated to those that drive prices in the U.S. Various local market-risk factors—including interest rates, inflation, and yield curves—have led to relatively low correlations of government bonds across markets over the past 50 years, suggesting a clear diversification benefit to increasing the number of global markets represented within a bond allocation.
"... so high a present discounted value of wealth, it is only prudent for him to put more into common stocks compared to his present tangible wealth, borrowing if necessary" - Paul Samuelson
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

Steve Reading wrote: Mon Feb 22, 2021 2:31 pm
watchnerd wrote: Mon Feb 22, 2021 2:26 pm
Steve Reading wrote: Mon Feb 22, 2021 2:18 pm

Even if relative changes in interest rates did affect currency exchanges immediately (they don't), it doesn't matter because BNDX is currency-hedged. BNDX's price moves with Ex-USA interest rates. USD bonds move with USA interest rates. These are different interest rates so they are subject to different sources of interest rate risk. Holding both diversifies your interest rate risk vs holding only one of them. You cannot diversify the interest rate risk of USD bonds with USD bonds, just think about it.
Your example was specifically about a large interest rate delta between US and Germany.

Vanguard themselves say hedging makes interest differentials less meaningful.

I don't know what to tell you as you seem to be claiming something Vanguard isn't.
No Vanguard isn't saying what you think they're saying. See:
https://institutional.vanguard.com/VGAp ... IntlYields

First they post your quote:
Additionally, by hedging the currency exposure of an international bond investment, the yield becomes less meaningful as a driver of total return, particularly when interest rate differentials between countries are large.
Then they go on to say:
By including an allocation to international bonds, TDF investors are able to diversify their bond exposure across more than 40 yield curves versus a single U.S. yield curve. They also gain exposure to a greater number of securities (7,000-plus), countries (40-plus), and economic and inflation environments than they would have with a TDF composed purely of U.S. bonds.

This broad exposure is important, as the factors that drive international bond prices are relatively uncorrelated to those that drive prices in the U.S. Various local market-risk factors—including interest rates, inflation, and yield curves—have led to relatively low correlations of government bonds across markets over the past 50 years, suggesting a clear diversification benefit to increasing the number of global markets represented within a bond allocation.
I think they're exactly making my case.

In a currency hedged bond fund, all of this exposure to different interest rate, inflation, etc, ends up being obfuscated by the hedge itself, leaving you with currency hedge return as the unique attribute relative to US bonds.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
vineviz
Posts: 14921
Joined: Tue May 15, 2018 1:55 pm
Location: Baltimore, MD

Re: Re-evaluating Total World Bond (BNDW)?

Post by vineviz »

watchnerd wrote: Mon Feb 22, 2021 2:26 pm Vanguard themselves say hedging makes interest differentials less meaningful.
I suspect you are paraphrasing, right? Because I can't find any place that Vanguard has said anything like that.

Here are some things Vanguard ACTUALLY said:
Beyond the diversification benefits of reducing exposure to a local bond market’s unique sector, quality, and maturity profile, an allocation to global bonds provides exposure to additional inflation risk factors, economic environments, and market cycles. Depending on the market and sector involved, credit risk premiums can also cause variability in bond returns, and if these drivers of returns are sufficiently different across markets, exposure to global bonds can potentially offer significant long-term diversification benefits.
For this reason, a global bond portfolio is typically less sensitive to changes in local interest rates than the weighted average durations of its individual bonds, which come from a wide range of different fixed income markets, would indicate. For example, in the Vanguard white paper Fearful of Rising Interest Rates? Consider a More Global Bond Portfolio, the authors found, using data for roughly the 18 years ending in 2013, that in periods of rising local interest rates, hedged global bonds outperformed local bond markets by a median of 1.03% in the United States, 0.86% in Canada, 1.84% in the United Kingdom, 0.54% in the euro area, and 1.64% in Australia (see Philips and Thomas, 2013).
We find that hedged global bonds provided more consistent returns and in many cases better levels of counterbalancing than local bond markets.
https://personal.vanguard.com/pdf/ISGGLBD.pdf
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
User avatar
Ocean77
Posts: 800
Joined: Wed Oct 23, 2019 3:20 pm

Re: Re-evaluating Total International Bond (BNDW)?

Post by Ocean77 »

SemiRetire wrote: Mon Feb 22, 2021 2:22 pm
Ocean77 wrote: Fri Feb 19, 2021 1:02 pm The bond portion of my portfolio is already split between US treasuries and emerging market government bonds. My impression is that emerging markets such as China are actually more responsible and conservative with their spending and fiscal policies and the US and many other developed countries (which operate like the US, if not worse). Not to mention that interest rates in China and other EM are still positive. I think if we want to diversify, then the the asset being added should really be different than the one we already have.
I dont know if OP thinks it might be worthwhile, but I think all replies such as this may be useful to state if the bond fund is hedged or unhedged for currency exposure?
Good question! My bond funds are all unhedged. I would not consider hedged bond funds. I want the currency exposure, as an element of diversification. It will be adding or subtracting some part of the return at different times, as the dollar goes up or down against other currencies. Same as with foreign stock funds which are also all unhedged (at least mine are). Of course this is just my preference, everybody can make her own decision on this.
30% US Stocks | 30% Int Stocks | 40% Bonds
User avatar
Steve Reading
Posts: 2959
Joined: Fri Nov 16, 2018 9:20 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by Steve Reading »

watchnerd wrote: Mon Feb 22, 2021 2:35 pm
Steve Reading wrote: Mon Feb 22, 2021 2:31 pm
watchnerd wrote: Mon Feb 22, 2021 2:26 pm
Steve Reading wrote: Mon Feb 22, 2021 2:18 pm

Even if relative changes in interest rates did affect currency exchanges immediately (they don't), it doesn't matter because BNDX is currency-hedged. BNDX's price moves with Ex-USA interest rates. USD bonds move with USA interest rates. These are different interest rates so they are subject to different sources of interest rate risk. Holding both diversifies your interest rate risk vs holding only one of them. You cannot diversify the interest rate risk of USD bonds with USD bonds, just think about it.
Your example was specifically about a large interest rate delta between US and Germany.

Vanguard themselves say hedging makes interest differentials less meaningful.

I don't know what to tell you as you seem to be claiming something Vanguard isn't.
No Vanguard isn't saying what you think they're saying. See:
https://institutional.vanguard.com/VGAp ... IntlYields

First they post your quote:
Additionally, by hedging the currency exposure of an international bond investment, the yield becomes less meaningful as a driver of total return, particularly when interest rate differentials between countries are large.
Then they go on to say:
By including an allocation to international bonds, TDF investors are able to diversify their bond exposure across more than 40 yield curves versus a single U.S. yield curve. They also gain exposure to a greater number of securities (7,000-plus), countries (40-plus), and economic and inflation environments than they would have with a TDF composed purely of U.S. bonds.

This broad exposure is important, as the factors that drive international bond prices are relatively uncorrelated to those that drive prices in the U.S. Various local market-risk factors—including interest rates, inflation, and yield curves—have led to relatively low correlations of government bonds across markets over the past 50 years, suggesting a clear diversification benefit to increasing the number of global markets represented within a bond allocation.
I think they're exactly making my case.

In a currency hedged bond fund, all of this exposure to different interest rate, inflation, etc, ends up being obfuscated by the hedge itself, leaving you with currency hedge return as the unique attribute relative to US bonds.
How you can read that article and those quotes and come to the conclusion above is honestly completely beyond me. Good luck watchnerd.
"... so high a present discounted value of wealth, it is only prudent for him to put more into common stocks compared to his present tangible wealth, borrowing if necessary" - Paul Samuelson
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

Steve Reading wrote: Mon Feb 22, 2021 2:38 pm
watchnerd wrote: Mon Feb 22, 2021 2:35 pm
Steve Reading wrote: Mon Feb 22, 2021 2:31 pm
watchnerd wrote: Mon Feb 22, 2021 2:26 pm
Steve Reading wrote: Mon Feb 22, 2021 2:18 pm

Even if relative changes in interest rates did affect currency exchanges immediately (they don't), it doesn't matter because BNDX is currency-hedged. BNDX's price moves with Ex-USA interest rates. USD bonds move with USA interest rates. These are different interest rates so they are subject to different sources of interest rate risk. Holding both diversifies your interest rate risk vs holding only one of them. You cannot diversify the interest rate risk of USD bonds with USD bonds, just think about it.
Your example was specifically about a large interest rate delta between US and Germany.

Vanguard themselves say hedging makes interest differentials less meaningful.

I don't know what to tell you as you seem to be claiming something Vanguard isn't.
No Vanguard isn't saying what you think they're saying. See:
https://institutional.vanguard.com/VGAp ... IntlYields

First they post your quote:
Additionally, by hedging the currency exposure of an international bond investment, the yield becomes less meaningful as a driver of total return, particularly when interest rate differentials between countries are large.
Then they go on to say:
By including an allocation to international bonds, TDF investors are able to diversify their bond exposure across more than 40 yield curves versus a single U.S. yield curve. They also gain exposure to a greater number of securities (7,000-plus), countries (40-plus), and economic and inflation environments than they would have with a TDF composed purely of U.S. bonds.

This broad exposure is important, as the factors that drive international bond prices are relatively uncorrelated to those that drive prices in the U.S. Various local market-risk factors—including interest rates, inflation, and yield curves—have led to relatively low correlations of government bonds across markets over the past 50 years, suggesting a clear diversification benefit to increasing the number of global markets represented within a bond allocation.
I think they're exactly making my case.

In a currency hedged bond fund, all of this exposure to different interest rate, inflation, etc, ends up being obfuscated by the hedge itself, leaving you with currency hedge return as the unique attribute relative to US bonds.
How you can read that article and those quotes and come to the conclusion above is honestly completely beyond me. Good luck watchnerd.

I don't know how you come to a different one.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

vineviz wrote: Mon Feb 22, 2021 2:36 pm
watchnerd wrote: Mon Feb 22, 2021 2:26 pm Vanguard themselves say hedging makes interest differentials less meaningful.
I suspect you are paraphrasing, right? Because I can't find any place that Vanguard has said anything like that.
Right here:

""Additionally, by hedging the currency exposure of an international bond investment, the yield becomes less meaningful as a driver of total return, particularly when interest rate differentials between countries are large."
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
GAAP
Posts: 2556
Joined: Fri Apr 08, 2016 12:41 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by GAAP »

watchnerd wrote: Mon Feb 22, 2021 2:30 pm
GAAP wrote: Mon Feb 22, 2021 2:24 pm
watchnerd wrote: Mon Feb 22, 2021 11:17 am Geo-political risk or fiscal policy differences is probably a real diversifier, but that is also going to manifest as differences in one of the above, along with exchange rates...which will be hedged away.
That depends upon how rapidly the bad stuff happens. 1917 provides a fairly clear example in Russia -- things were fine and then they weren't. I personally am not willing to bet that "normal market forces" will reliably deal with abnormal events.
There are plenty or recent abnormal crises to look at: Asian currency crisis, Argentine defaults, etc.

How did those geo-political / fiscal policy issues not manifest as (admittedly rapid and short term chaotic) changes in price, quality, etc?
The difference here is that those were not domestic geopolitical or fiscal events. I don't have the same faith that most have in the US Treasury. Once you take that assumption out, the choice to diversify globally becomes much easier.
“Adapt what is useful, reject what is useless, and add what is specifically your own.” ― Bruce Lee
We'll See
Posts: 85
Joined: Tue Jan 07, 2014 4:22 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by We'll See »

Alchemist wrote: Fri Feb 19, 2021 10:10 pm
watchnerd wrote: Fri Feb 19, 2021 12:32 pm Are there now more compelling reasons than before for US investors to consider a total world bond approach?
Considering how many foreign central banks had to depend on the U.S. Federal Reserve's generosity with bank liquidity swaps during both he GFC and the pandemic; no.

Or put differently: when the USD stops being the global reserve currency then non-USD bonds might be something to consider. Until then there is no additional safety to be gained from adding foreign bonds to a US investors portfolio.
After that won't it be too late?
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total International Bond (BNDW)?

Post by watchnerd »

Ocean77 wrote: Mon Feb 22, 2021 2:37 pm
Good question! My bond funds are all unhedged. I would not consider hedged bond funds. I want the currency exposure, as an element of diversification. It will be adding or subtracting some part of the return at different times, as the dollar goes up or down against other currencies. Same as with foreign stock funds which are also all unhedged (at least mine are). Of course this is just my preference, everybody can make her own decision on this.
This logic makes sense to me and is consistent with unhedged international stock holdings.

I also understand the opposite -- the desire to have no currency exposure in bonds in using only home country currency.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

GAAP wrote: Mon Feb 22, 2021 2:44 pm
The difference here is that those were not domestic geopolitical or fiscal events. I don't have the same faith that most have in the US Treasury. Once you take that assumption out, the choice to diversify globally becomes much easier.
So if one wants to guard against a total collapse of the US bond market and US dollar....

...why would you want it USD-hedged?

Wouldn't it be cheaper to just hold unhedged?
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
User avatar
vineviz
Posts: 14921
Joined: Tue May 15, 2018 1:55 pm
Location: Baltimore, MD

Re: Re-evaluating Total World Bond (BNDW)?

Post by vineviz »

watchnerd wrote: Mon Feb 22, 2021 2:42 pm
vineviz wrote: Mon Feb 22, 2021 2:36 pm
watchnerd wrote: Mon Feb 22, 2021 2:26 pm Vanguard themselves say hedging makes interest differentials less meaningful.
I suspect you are paraphrasing, right? Because I can't find any place that Vanguard has said anything like that.
Right here:

""Additionally, by hedging the currency exposure of an international bond investment, the yield becomes less meaningful as a driver of total return, particularly when interest rate differentials between countries are large."
By rearranging the words, you've changed the meaning.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

vineviz wrote: Mon Feb 22, 2021 2:51 pm
watchnerd wrote: Mon Feb 22, 2021 2:42 pm
vineviz wrote: Mon Feb 22, 2021 2:36 pm
watchnerd wrote: Mon Feb 22, 2021 2:26 pm Vanguard themselves say hedging makes interest differentials less meaningful.
I suspect you are paraphrasing, right? Because I can't find any place that Vanguard has said anything like that.
Right here:

""Additionally, by hedging the currency exposure of an international bond investment, the yield becomes less meaningful as a driver of total return, particularly when interest rate differentials between countries are large."
By rearranging the words, you've changed the meaning.
I don't think so.

But you have the quote now, make of it what you will.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
GAAP
Posts: 2556
Joined: Fri Apr 08, 2016 12:41 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by GAAP »

watchnerd wrote: Mon Feb 22, 2021 2:48 pm
GAAP wrote: Mon Feb 22, 2021 2:44 pm
The difference here is that those were not domestic geopolitical or fiscal events. I don't have the same faith that most have in the US Treasury. Once you take that assumption out, the choice to diversify globally becomes much easier.
So if one wants to guard against a total collapse of the US bond market and US dollar....

...why would you want it USD-hedged?

Wouldn't it be cheaper to just hold unhedged?
Ideally I wouldn't want it hedged. Ideally, it would hold a much broader spectrum of bonds. Ideally, it would be a single ticker like BNDW (I'm lazy).

So far, lazy wins -- plus it has the additional advantage that it is easier to explain to my spouse.
“Adapt what is useful, reject what is useless, and add what is specifically your own.” ― Bruce Lee
User avatar
vineviz
Posts: 14921
Joined: Tue May 15, 2018 1:55 pm
Location: Baltimore, MD

Re: Re-evaluating Total World Bond (BNDW)?

Post by vineviz »

watchnerd wrote: Mon Feb 22, 2021 2:58 pm
vineviz wrote: Mon Feb 22, 2021 2:51 pm By rearranging the words, you've changed the meaning.
I don't think so.

But you have the quote now, make of it what you will.
Vanguard says that YIELD (as in, the local currency yield-to-maturity) is less meaningful when currency hedging is employed, not that "interest rate differentials" are less meaningful.

And it should be obvious WHY the local currency yield-to-maturity is less meaningful when currency hedging is used.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
redbarn
Posts: 83
Joined: Mon Feb 10, 2020 4:07 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by redbarn »

If interest rates and exchange rates moved 1-to-1, then it is true that hedging currency exposure would also kill off interest rate diversification. However, based on the empirical literature, the correlation between interest rates and exchange rates is much closer to zero than it is to (-) 1. (This is related to the "exchange rate disconnect puzzle" whereby exchange rates tend to show no significant relationship with any macroeconomic fundamentals, including interest rates.) Overall, it's not unreasonable to argue that hedging might reduce interest rate diversification, but the effect would have to be slight, definitely nothing close to wiping out interest rate diversification.

Also, the Vanguard quote is just saying that the return of a hedged bond is less explained by the underlying yield. That would be true even if there was no relationship between interest rates and exchange rates, and therefore says nothing at all about whether diversification benefits are being washed out by the hedging or not.
User avatar
Steve Reading
Posts: 2959
Joined: Fri Nov 16, 2018 9:20 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by Steve Reading »

redbarn wrote: Mon Feb 22, 2021 8:51 pm Also, the Vanguard quote is just saying that the return of a hedged bond is less explained by the underlying yield. That would be true even if there was no relationship between interest rates and exchange rates, and therefore says nothing at all about whether diversification benefits are being washed out by the hedging or not.
Totally agree.
redbarn wrote: Mon Feb 22, 2021 8:51 pm If interest rates and exchange rates moved 1-to-1, then it is true that hedging currency exposure would also kill off interest rate diversification.
I don't think so. If interest rates moved 1-to-1 with exchange rates (such that a drop in an interest rate would immediately depreciate the exchange rate of the currency by the same amount, since money would flee the lower-yielding currency) then an unhedged international bond would offer no interest rate diversification. Ex: if the german interest rate decreased by 1% on a 7Yr bond, but this caused a depreciation of 7% in the exchange from Euro-to-USD, then your bond hasn't changed value in USD terms.

But because the bonds are hedged, any effect an interest rate change has on the currency exchange doesn't matter at all. If german rate increases caused the Euro to appreciate vs the dollar, or depreciate, or cause no change or whatever, it doesn't matter. It's hedged to the USD, the currency contract will offset the exchange rate movement. So all you get is a bond that is purely and fully sensitive to the german interest rate.

As Vanguard puts it:
The decision to hedge also impacts the return experience of a U.S.-based investor. This is because an investment in an international bond by a U.S.-based investor consists of three return components: The price return, the income return, and the currency return. By hedging, you replace the volatile currency return component with a return component approximately equal to the short-term interest rate differential between the USD and the currency of the bond.
The currency hedge just means that the currency return of the bond is now USD ST rate - Ex-USA ST rate. But it has no effect on the price return of the bond, which comes from interest rate movements, spreads widening/tightening, etc.
"... so high a present discounted value of wealth, it is only prudent for him to put more into common stocks compared to his present tangible wealth, borrowing if necessary" - Paul Samuelson
User avatar
Ocean77
Posts: 800
Joined: Wed Oct 23, 2019 3:20 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by Ocean77 »

I admit those calculations hurt my brain. My thinking is rather simplistic: I believe that out country fortunes are quite linked with the strength of our currency (the US dollar). If our economy does well, it becomes more attractive to investors abroad, and both the dollar and my US investments should do well. My international holdings may lose some value then, but so what. I'd rebalance, buying up more of them with our strong dollar.

On the other hand, if there were some distress here, i.e. the national debt ballooning and the Fed holding interests rates low, causing inflation and what have you, then markets may go down and investors may flee the US but the strength in my international holdings may somewhat make up for that. I'd rebalance the other way around.

In both cases, having the international holdings unhedged looks like a benefit to me. Aside from this, hedging must cost the fund some money, right? I can't imagine this coming entirely for free. Correct me if I'm wrong, I haven't looked this up. Given that the currency ups and downs probably even out over time anyway, I certainly would not want to spend any money on hedging.
30% US Stocks | 30% Int Stocks | 40% Bonds
redbarn
Posts: 83
Joined: Mon Feb 10, 2020 4:07 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by redbarn »

Steve Reading wrote: Mon Feb 22, 2021 9:20 pm
redbarn wrote: Mon Feb 22, 2021 8:51 pm If interest rates and exchange rates moved 1-to-1, then it is true that hedging currency exposure would also kill off interest rate diversification.
I don't think so. If interest rates moved 1-to-1 with exchange rates (such that a drop in an interest rate would immediately depreciate the exchange rate of the currency by the same amount, since money would flee the lower-yielding currency) then an unhedged international bond would offer no interest rate diversification. Ex: if the german interest rate decreased by 1% on a 7Yr bond, but this caused a depreciation of 7% in the exchange from Euro-to-USD, then your bond hasn't changed value in USD terms.

But because the bonds are hedged, any effect an interest rate change has on the currency exchange doesn't matter at all. If german rate increases caused the Euro to appreciate vs the dollar, or depreciate, or cause no change or whatever, it doesn't matter. It's hedged to the USD, the currency contract will offset the exchange rate movement. So all you get is a bond that is purely and fully sensitive to the german interest rate.

As Vanguard puts it:
The decision to hedge also impacts the return experience of a U.S.-based investor. This is because an investment in an international bond by a U.S.-based investor consists of three return components: The price return, the income return, and the currency return. By hedging, you replace the volatile currency return component with a return component approximately equal to the short-term interest rate differential between the USD and the currency of the bond.
The currency hedge just means that the currency return of the bond is now USD ST rate - Ex-USA ST rate. But it has no effect on the price return of the bond, which comes from interest rate movements, spreads widening/tightening, etc.
You are absolutely right. Thinking about it more, your point is even more clear when we consider a domestic interest rate change.

If your domestic interest rate increases, your domestic bond price will decrease in value. If the interest rate increase translates into a 1-to-1 appreciation of your currency (as in your 7% example but in reverse), then the foreign bond will also decrease equivalently in value in terms of your domestic currency. So the foreign bonds do not diversify at all against a domestic interest rate increase when you have unhedged foreign bonds and a 1-to-1 relationship between interest rate and exchange rate. In this scenario, the hedged foreign bond would not lose value even when your domestic bond does, and so provides more interest rate diversification.
User avatar
Steve Reading
Posts: 2959
Joined: Fri Nov 16, 2018 9:20 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by Steve Reading »

redbarn wrote: Tue Feb 23, 2021 6:20 pm
Steve Reading wrote: Mon Feb 22, 2021 9:20 pm
redbarn wrote: Mon Feb 22, 2021 8:51 pm If interest rates and exchange rates moved 1-to-1, then it is true that hedging currency exposure would also kill off interest rate diversification.
I don't think so. If interest rates moved 1-to-1 with exchange rates (such that a drop in an interest rate would immediately depreciate the exchange rate of the currency by the same amount, since money would flee the lower-yielding currency) then an unhedged international bond would offer no interest rate diversification. Ex: if the german interest rate decreased by 1% on a 7Yr bond, but this caused a depreciation of 7% in the exchange from Euro-to-USD, then your bond hasn't changed value in USD terms.

But because the bonds are hedged, any effect an interest rate change has on the currency exchange doesn't matter at all. If german rate increases caused the Euro to appreciate vs the dollar, or depreciate, or cause no change or whatever, it doesn't matter. It's hedged to the USD, the currency contract will offset the exchange rate movement. So all you get is a bond that is purely and fully sensitive to the german interest rate.

As Vanguard puts it:
The decision to hedge also impacts the return experience of a U.S.-based investor. This is because an investment in an international bond by a U.S.-based investor consists of three return components: The price return, the income return, and the currency return. By hedging, you replace the volatile currency return component with a return component approximately equal to the short-term interest rate differential between the USD and the currency of the bond.
The currency hedge just means that the currency return of the bond is now USD ST rate - Ex-USA ST rate. But it has no effect on the price return of the bond, which comes from interest rate movements, spreads widening/tightening, etc.
You are absolutely right. Thinking about it more, your point is even more clear when we consider a domestic interest rate change.

If your domestic interest rate increases, your domestic bond price will decrease in value. If the interest rate increase translates into a 1-to-1 appreciation of your currency (as in your 7% example but in reverse), then the foreign bond will also decrease equivalently in value in terms of your domestic currency. So the foreign bonds do not diversify at all against a domestic interest rate increase when you have unhedged foreign bonds and a 1-to-1 relationship between interest rate and exchange rate. In this scenario, the hedged foreign bond would not lose value even when your domestic bond does, and so provides more interest rate diversification.
Yeah you got it! Of course, as you've mentioned before, interest rate changes don't have anywhere near an immediate, 1-to-1 effect with exchange rates so unhedged Ex-USA bonds also provide plenty of interest rate and price diversification to USD bonds.
"... so high a present discounted value of wealth, it is only prudent for him to put more into common stocks compared to his present tangible wealth, borrowing if necessary" - Paul Samuelson
klaus14
Posts: 953
Joined: Sun Nov 25, 2018 6:43 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by klaus14 »

I think when you hedge, overnight rate difference becomes important.
If USD is paying 0% overnight but EUR is paying -0.3%, when you hedge you earn the 0.3% difference. This will effect your income from the bond. If yield curve has the same slope, say 10Y USD is paying 1% vs EUR 0.7% then final income will be the same (you'll earn 1% either way)

But, the price of the hedged bond is effected by interest rate moves of the other country.
If you hold 10Y EUR bonds and the interest rate moves 1% up, you'll lose 10%. This will happen regardless of currency exchange rate because you are hedged.
During Oct 2020, US Rates went up -> BND went down. European Rates went down -> BNDX went up.

If everything is stable and yield curves are similar then it would seem like holding hedged bonds are not different than holding US treasuries. The diversification will show up when yield curves move in different directions.

but.. this is not expected. usually all developed bonds move together. i think there is better value in currency diversification and in emerging markets. I hold US treasuries + local currency EM.
My investment algorithm: https://www.bogleheads.org/forum/viewtopic.php?f=10&t=351899&p=6112869#p6112869
Alchemist
Posts: 638
Joined: Sat Aug 30, 2014 6:35 am

Re: Re-evaluating Total World Bond (BNDW)?

Post by Alchemist »

whereskyle wrote: Mon Feb 22, 2021 6:32 am
Alchemist wrote: Fri Feb 19, 2021 10:10 pm
watchnerd wrote: Fri Feb 19, 2021 12:32 pm Are there now more compelling reasons than before for US investors to consider a total world bond approach?
Considering how many foreign central banks had to depend on the U.S. Federal Reserve's generosity with bank liquidity swaps during both he GFC and the pandemic; no.

Or put differently: when the USD stops being the global reserve currency then non-USD bonds might be something to consider. Until then there is no additional safety to be gained from adding foreign bonds to a US investors portfolio.
But wouldn't one like to own the non-USD bonds before (as in, in case) the USD stops being the global reserve currency?
The main point is that there is not anywhere to hide in the case of a USD collapse other than perhaps gold or real estate. If the USD stopped being the world reserve currency there is no replacement available; much of global trade would scream to a halt and no currency would be spared the chaos. Nearly 90% of international transactions are in USD and almost two thirds of all foreign reserves are held in dollar denominated assets. All the foreign currencies supported with those foreign reserves would fall too.

International currency exposure, for a US investor, exposes you to international currency risk while not protecting you from USD risk. If the Euro crashes because Italy defaults, USD assets are unaffected. If the USD crashes because of *insert black swan here* then the Euro is coming down too.

I know this is counter to the dogma of Bogleheds but the United States isn’t ‘just another country’. Much of what we consider the global system depends on U.S. support that exposes other national economies to U.S. black swans but does not equally expose the U.S. to international black swans.
redbarn
Posts: 83
Joined: Mon Feb 10, 2020 4:07 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by redbarn »

Alchemist wrote: Wed Feb 24, 2021 8:38 pm International currency exposure, for a US investor, exposes you to international currency risk while not protecting you from USD risk. If the Euro crashes because Italy defaults, USD assets are unaffected. If the USD crashes because of *insert black swan here* then the Euro is coming down too.

I know this is counter to the dogma of Bogleheds but the United States isn’t ‘just another country’. Much of what we consider the global system depends on U.S. support that exposes other national economies to U.S. black swans but does not equally expose the U.S. to international black swans.
I largely agree with the last part of this but diversification is not primarily about black swans or cataclysmic events. For example, if US inflation overshoots the 2% target by a few percentage points (e.g. 2-3) and the Fed has a bit of trouble bringing it back to the target for a few years, the Euro will not implode and foreign currency holdings will provide some protection for US investors.
Alchemist
Posts: 638
Joined: Sat Aug 30, 2014 6:35 am

Re: Re-evaluating Total World Bond (BNDW)?

Post by Alchemist »

redbarn wrote: Wed Feb 24, 2021 9:03 pm I largely agree with the last part of this but diversification is not primarily about black swans or cataclysmic events. For example, if US inflation overshoots the 2% target by a few percentage points (e.g. 2-3) and the Fed has a bit of trouble bringing it back to the target for a few years, the Euro will not implode and foreign currency holdings will provide some protection for US investors.
Certainly agree that there are cases when foreign currency may provide a diversification benefit. But there is nothing stopping both the Euro and the Dollar from facing simultaneous inflation overshoots.

If inflation is your concern and you are a US based investor then TIPS, I-Bonds, Gold, and maybe REITs would likely provide more reliable protection from unexpected inflation.
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

redbarn wrote: Wed Feb 24, 2021 9:03 pm I largely agree with the last part of this but diversification is not primarily about black swans or cataclysmic events. For example, if US inflation overshoots the 2% target by a few percentage points (e.g. 2-3) and the Fed has a bit of trouble bringing it back to the target for a few years, the Euro will not implode and foreign currency holdings will provide some protection for US investors.
This makes sense to me.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
lostdog
Posts: 5368
Joined: Thu Feb 04, 2016 1:15 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by lostdog »

So BNDW and chill?

Great thread to learn from.
Stocks-80% || Bonds-20% || Taxable-VTI/VXUS || IRA-VT/BNDW
Tamalak
Posts: 1989
Joined: Fri May 06, 2016 2:29 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by Tamalak »

Wow. Why is BNDW yield 3%?? Us-only bonds (BND) have poor yields, international-only bonds (BNDX) have poor yields, but somehow blending them gives you 3%? Or is this riskier somehow? The duration of the bonds seems conservative..

I'm tempted to switch to this from BND. I know there's a mantra against performance chasing, but does that really apply to bonds? You're guaranteed the yield on the tin over the maturity period unless there's some terrible collapse. That's a fundamental difference from stocks.
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

Tamalak wrote: Sun May 02, 2021 8:09 am Wow. Why is BNDW yield 3%?? Us-only bonds (BND) have poor yields, international-only bonds (BNDX) have poor yields, but somehow blending them gives you 3%? Or is this riskier somehow? The duration of the bonds seems conservative..

I'm tempted to switch to this from BND. I know there's a mantra against performance chasing, but does that really apply to bonds? You're guaranteed the yield on the tin over the maturity period unless there's some terrible collapse. That's a fundamental difference from stocks.
It's a reporting goof caused by the funds of funds structure.

I made a thread on that:

viewtopic.php?t=347429
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
Tamalak
Posts: 1989
Joined: Fri May 06, 2016 2:29 pm

Re: Re-evaluating Total World Bond (BNDW)?

Post by Tamalak »

watchnerd wrote: Sun May 02, 2021 8:19 am
Tamalak wrote: Sun May 02, 2021 8:09 am Wow. Why is BNDW yield 3%?? Us-only bonds (BND) have poor yields, international-only bonds (BNDX) have poor yields, but somehow blending them gives you 3%? Or is this riskier somehow? The duration of the bonds seems conservative..

I'm tempted to switch to this from BND. I know there's a mantra against performance chasing, but does that really apply to bonds? You're guaranteed the yield on the tin over the maturity period unless there's some terrible collapse. That's a fundamental difference from stocks.
It's a reporting goof caused by the funds of funds structure.

I made a thread on that:

viewtopic.php?t=347429
Thanks! Knew it was too good to be true.. :oops:

I'm a "total world capitalization" true believer (55% VTI 45% VXUS) so I've always struggled as to whether my bonds should be US-only or total world. I'm willing to ignore currency volatility as a concern for very long term stocks, but I figure with bonds, your native currency is best. So I'll stick with BND.
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

Tamalak wrote: Sun May 02, 2021 9:23 am

Thanks! Knew it was too good to be true.. :oops:

I'm a "total world capitalization" true believer (55% VTI 45% VXUS) so I've always struggled as to whether my bonds should be US-only or total world. I'm willing to ignore currency volatility as a concern for very long term stocks, but I figure with bonds, your native currency is best. So I'll stick with BND.
My POV on this is evolving.

Now that my LMP ladder is nearly complete, I don't need "bonds for safety" anymore, as the LMP ladder provides this.

This allows me to view bonds as another kind of risk asset, per the Sharpe portfolio.

The question for me then becomes: hedged vs un-hedged international bonds?

Over a long time span, the backtests shows them to be incredibly similar. As, theoretically should be expected, given currency hedges should net out to zero over time:

https://www.portfoliovisualizer.com/bac ... n5_2=12.40

Right now, I still give the edge to BNDW for cost reasons. But if an unhedged international bond comes along that is equally cheap, I'd personally definitely consider it.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
Polymorphic
Posts: 113
Joined: Tue Feb 18, 2014 8:03 am

Re: Re-evaluating Total World Bond (BNDW)?

Post by Polymorphic »

watchnerd wrote: Sun May 02, 2021 9:34 am
My POV on this is evolving.
I've been reading a lot of old posts on BNDX and BNDW, and clearly you weren't high on them a couple of years ago. Based on your signature now, though, it looks like you made the leap. Anything else to add about how your POV has changed? I'm all-in on VT, but haven't made the jump yet from BND to BNDW.
User avatar
Topic Author
watchnerd
Posts: 13614
Joined: Sat Mar 03, 2007 10:18 am
Location: Gig Harbor, WA, USA

Re: Re-evaluating Total World Bond (BNDW)?

Post by watchnerd »

Polymorphic wrote: Mon May 24, 2021 11:25 am
watchnerd wrote: Sun May 02, 2021 9:34 am
My POV on this is evolving.
I've been reading a lot of old posts on BNDX and BNDW, and clearly you weren't high on them a couple of years ago. Based on your signature now, though, it looks like you made the leap. Anything else to add about how your POV has changed? I'm all-in on VT, but haven't made the jump yet from BND to BNDW.
1. As I'm starting to pivot to my retirement portfolio (plan to retire in 4 years), my overall AA has changed as we plowed a bunch of our portfolio into an LMP ladder, leaving the Risk Portfolio to be redefined.

2. The redefined Risk Portfolio is based on the Sharpe portfolio

3. What I really want from foreign bonds -- local currency, sovereigns plus corporates, low ER -- doesn't really exist.

BWX is local currency, but lacks corporates and has a higher-than-I-like-at-these-yields ER of .35.

BNDX is not local currency, but has corporates and sovereigns, and has a low enough ER.

So I'm holding my nose and allocating to BNDX given what I really want isn't available.
Global stocks, IG/HY bonds, gold & digital assets at market weights 75% / 19% / 6% || LMP: TIPS ladder
Post Reply