Why Bonds Aren't Good Investments

If a home is not an investment, what about a Treasury bond? In my comments, Dan responds forcefully to Urban Legend, who was trying to make the case that low interest rates do a lot of harm to those poor millionaires looking to live on their risk-free interest payments alone:

If you think it is reasonable to get a 5% return on top of inflation without taking risk, I have some oceanfront property in Nevada to sell you. That may have been possible in the past, but we are in a new world now.

Investing is not about loaning your funds out to a government, completely abdicating responsibility for finding meaningful uses for the capital and then expecting a substantial return above inflation. Our governments are nearly bankrupt.

If you lend to a nearly bankrupt and profligate entity, you deserve to lose a lot of money. You are like a bartender serving a drunk who is drinking himself to death. You are not innocent. You are part of the problem, and your investments are making the world worse. You don’t deserve a good return for that.

How to invest? If you really want risk fee, go for TIPs, but don’t expect much beyond inflation. Better yet, learn basics of business and investing and carefully loan out to local small businesses. Or be a landlord, watching your profit and dividends every month. Or invest in important and useful companies via the stockmarket. Or invest in making your house energy efficient. Or invest in your childrens’ and grandchildrens’ educations. Or donate it for research to invest in everyone’s future.

Whine about the Fed if you want. Your treasury buys make all these games possible.

I just made a significant investment in Apple (AAPL), but I didn’t touch the stock: instead, my house now sports two brand-new computers, and already the returns on those computers are proving higher than I’d anticipated. (Although if you’re in NYC and are willing to trade knowledge of Mac OS X Server for good food and wine, I think I have a deal for you.)

There are lots of ways to invest well, and most of them don’t involve buying securities which rise in value. I often feel that stock-picker types are missing the point, rather — especially nowadays, when the future of the capital markets has never been cloudier.

If you really want to play a game where the person with the best-performing stock portfolio wins, then fine. But other kinds of investing, like for instance Dan’s idea of providing much-needed funds for a small local business, can be more rewarding in other ways. The world of securitization and capital markets turns out not to have been nearly as good at capital allocation as most of us thought it was. So maybe we should go back to making our own real-world investment decisions, rather than trusting in the markets to get it right.

Comments

[whidbey]

Fun comment, but damned foolishness in spades. Bonds does not make one a participant in the foolishness of the Federal government, nor are they likely to impoverish the owner unless he turns his back on his investments. This year my bonds have outrun equity indexes and are still gaining. True, there will come a time to sell them to cash or gold, or tips. But not yet. By the way my 10 year old grandson does rather well with OS X (safari). Maybe you need to spend less time misinforming your readers and more learning to use what you purchased and can not use. By the way, how bright with that???

2009 Nov 30 08:42 PM

[derryl]

I agree with Felix. "Investment" should mean contributing capital (monetary, physical or intellectual) towards the generation of economic value. Returns on investment should represent your share of the profits of that value creation. There are not, nor should there be, any guarantees that simply allocating money into an 'investment' will generate lucrative returns.

Money buried in a sack in your yard clearly is not generating any economic value. Burying is a 'sterile' investment that generates no returns whatsoever, though it's a pretty good way of preserving your capital. Allocating money to government debt is nearly as sterile as burying it in your yard. There may be some economic value generated by people seeking to earn some of the government spending, but there is no direct value generated by government deficit spending. So there is no direct value generated by the "bonds" by which government finances its deficit spending.

Like burying your money, buying bonds is not a good "investment", as Felix observes. Even if bonds are paying high interest they are still not "investments", in Felix's sense.

2009 Nov 30 09:55 PM

[mbkelly75]

I have been 34% in Bonds for years without any problem. They go up and down like any other investment and pay money to me monthly for re-investing, re-balancing (if needed), or spending (if needed). They tend to move opposite of the stocks and that helps also.
I do agree, however, that there are better things to invest in sometimes. When our grandkids moved in with us - we spent more cash that we wanted to in order to make things nice for them. It was worth every penny - we bought new computers, clothes, furniture, and did some re-modeling also. They are healthy, happy and doing well in school. A year and a half ago - they were near feral. As I said, worth every penny.

2009 Nov 30 09:59 PM

[[e-mail]]

Rule number 1: avoid debt
Rule number 2: live below your means
Rule number 3: observe rules 1 and 2 and a bond portfolio with 5% returns will extend your life via restful sleep instead of stressing over equity volatility.

If I am not mistaken, bonds have actually outperformed equties over the past 60 years or so. The S&P has been flat over the past decade while bonds have provided very decent returns. I am a "conservative" investor within a "conservative" realm of investing. I have never owned a "junk bond" . I have averaged well over 5% annual returns for the past 10 years. Treasuries (mostly TIPS) grew my portfolio during the 2000 - 2003 market meltdown. The past two years I realized 24% in long treasuries and 12% this year in I-bonds (all via mutual funds). Yes, I do a bit of timing. I also know that it is far easier to anticipate bond performance than equity performance. Interest rates corrolate to bonds almost in lockstep. On several occasions, I have enjoyed huge gains due to panicked equity investors flocking into "safe havens". All God's children eventually return to the kingdom. I have many times missed huge gains in equities and real estate but those bubbles would have taken away more than they gave in the long run (unless I was the perfect timer...which I am not nor would be foolish enough to think I could be). I cannot disagree with you more regarding bonds being a bad investment. They will get you there without the ulcer producing ups and downs. They key is to know what you own, for many mutual bond funds got creamed last year....but what they owned were junk. Stay above a triple B rated investing style....and adopt the patient approach.....bonds are a good investment.....slow and steady wins the race.

2009 Dec 01 05:12 AM

[Wildhawk]

To my thinking, the biggest problem with investing in the equity markets is that we're investing in secondary markets, not primary markets. Unless you're purchasing shares via a rights offering or secondary issue, you're not actually providing additional capital to the business- you're merely "tagging along" with the success or failure of that business. You're subject to all the volatility inherent in equity markets but haven't provided any meaningful impact on the businesses you've invested in. Kind of a lose-lose for everyone involved- except the middlemen, that is.

The single most successful investor I know personally made (and kept) his fortune by 1) always living below his means 2) starting his own business, 3) selling out of that business after about a decade of blood, sweat, and tears to a buyer who offered him a ridiculous price, 4) and investing the majority of his money outside the business (and post sale) in municipal bonds and inflation-indexed treasuries, using the balance (about 20%-30% of his total wealth) to provide seed capital to promising local startup businesses. The most interesting thing to me from this scenario is that he didn't become dynastically wealthy until long after he sold his business. His business simply helped him get to the point of being "comfortable" for life. He became impressively wealthy (both financially and psychologically) by investing in those startups. He lost money more often than he made money, but when he made money, it was multiples of 100's of times what he invested.

2009 Dec 01 09:34 AM

[Andy_in_973]

User410955 ! FYI - Historically, Bonds *do not* outperform Stocks over the long haul, although over a short period, they can and have.
Looking at a chart from Campbell Harvey, PhD, MBA. - Duke Univ. Professor (www.duke.edu/~charvey/Classes/ba35... You can see that you would have needed $8.51in 1995 to equal a dollar's value in 1925. That dollar invested in Treasuries was worth $30.68 by 1995, LT Corporate Bonds $44.15, but the S&P500 was $973.85 - a return almost 32 times that of treasuries.
Govt. stats - (www.ssab.gov/Publicati... ) show a REAL (after inflation) return 1946 -1998 of 7.8% for stocks, 1.3% for treasuries.

2009 Dec 01 11:08 AM

[Andy_in_973]

User410955 ! FYI - Historically, Bonds *do not* outperform Stocks over the long haul, although over a short period, they can and have.
Looking at a chart from Campbell Harvey, PhD, MBA. - Duke Univ. Professor (www.duke.edu/~charvey/Classes/ba35... You can see that you would have needed $8.51in 1995 to equal a dollar's value in 1925. That dollar invested in Treasuries was worth $30.68 by 1995, LT Corporate Bonds $44.15, but the S&P500 was $973.85 - a return almost 32 times that of treasuries.
Govt. stats - (www.ssab.gov/Publicati... ) show a REAL (after inflation) return 1946 -1998 of 7.8% for stocks, 1.3% for treasuries.

2009 Dec 01 11:09 AM

[[e-mail]]

Thank you for correcting me. I do not go back that far but have perused bond affecianados articles stating that bonds have actually outperformed equities over the long haul (contrary to conventional belief). The only actual time frame I can personally attest to is the past decade. The philosophy of "buy and hold" was the mantra. It turned out to be "buy and fold". I must admit that I was almost toally invested in equities duriing the 80's and 90's. This proved to be most profitable and maybe the most profitable niche within two generations. I was lucky....not smart. But I also kept reading about the "historic" rate of return of equities....and the "a-ha" moment hit me. I had made maybe fifty years of returns in fifteen or so. Me got out! I did not have another really long time span or chance of the draw in being invested during a golden decade or two again. Nobody has 60 years to ride out the curve....you have to make it in 20 or 30....and investors who held equities in the 1970's and got set to retire and the same for this decade got punished. It is all in how you slice the investment time frame and the way way back machine. By the way, if one stayed in bonds and retired comfortably without the grief and stress versus one who retired with more money but lives on Pepto-Bismol....who wins? My point is basically the article states bonds are a "bad investment"....not so me says.....and I thank you for your input....sincerely.


On Dec 01 11:08 AM Andy_in_973 wrote:

> User410955 ! FYI - Historically, Bonds *do not* outperform Stocks
> over the long haul, although over a short period, they can and have.
>
> Looking at a chart from Campbell Harvey, PhD, MBA. - Duke Univ. Professor
> (www.duke.edu/~charvey/Classes/ba35... You can see that you
> would have needed $8.51in 1995 to equal a dollar's value in 1925.
> That dollar invested in Treasuries was worth $30.68 by 1995, LT Corporate
> Bonds $44.15, but the S&P500 was $973.85 - a return almost 32
> times that of treasuries.
> Govt. stats - (www.ssab.gov/Publicati...
> ) show a REAL (after inflation) return 1946 -1998 of 7.8% for stocks,
> 1.3% for treasuries.

2009 Dec 01 05:12 PM

[DougM]

Well, a lot of us have jobs where we are creating economic value, so we don't have the time to do the kind of "hands-on" investing advocated here. We need a way to under-consume now to save for our retirements later (at least, the responsible among us do). So now, let's review the two main choices, stocks and bonds. Bonds have their place. I'll include bank CDs and deposits as bonds. There is a place for someone to take a less risky position in the capital structure in exchange for a lesser portion of the proceeds. I think it is not at all unreasonable to expect *some* positive real return for this. Yet government policy has ensured that, net of taxes, you lose on this method of savings. Now, what about stocks? Here government tax policy enables you to keep your money compounding until you sell. Yet here, you are effectively forced to participate in wall street's rigged game and corporate america's new era of "management capitalism" where the managers running firms reward themselves handsomely regardless how the owner/shareholders are doing.

2009 Dec 02 02:15 AM