Tuesday 18 February 2014 by Elizabeth Moran Education (basics)

Three couples, three completely different portfolios

A few years ago in Perth, I had a lively dinner with three couples with completely different fixed income portfolios, their stories were interesting and worth recounting

This note was originally published on 18 February 2014 and updated on 14 December 2018.

horses


Sarah and Stephen

Stephen and Sarah were young retirees who first became interested in investing in bonds when interest rates on deposits declined; lowering income and thus increasing the possibility they would have to dip into capital. Their initial focus was generating higher cashflows than what was available by investing in deposits. They didn’t want to risk having to spend capital for their living expenses. A secondary goal was to invest for growth where they aimed to make higher than market average returns.

Their current portfolio was weighted towards inflation linked bonds with a 45 per cent allocation, as they saw inflation as a major risk to their cashflow. The remaining funds were almost equally split between fixed rate bonds and floating rate bonds. The fixed rate bonds delivered high, known half yearly interest. Stephen specifically sought floating rate bonds trading under par, or face value of $100, to boost return and as a hedge against interest rates rising. Just before Christmas that year, the couple bought their first indexed annuity bond, the Melbourne Convention Centre bond. Even though the bond returned principal and interest and they didn’t need the principal, the near 6 per cent projected return was considered a good opportunity at the time. Stephen and Sarah typify the couples investing in bonds; eager to learn, want to invest on their own behalf and believe they can achieve higher returns than superannuation funds.

Jane and Mark

Mark and Jane had a different view. They liked the simplicity of knowing what their income will be and being able to plan ahead. They had 100% of their fixed income portfolio in high yielding fixed rate bonds. At the time, they were not convinced about investing in floating rate or inflation linked bonds and thought Australia was in for a period of low interest rates, so didn’t see the need to diversify in terms of the types of bonds they held at that particular time. Jointly, they felt more comfortable with a “hold to maturity” which suited their objectives. This couple were confident and content and as much as I wouldn’t ever advocate allocating all of your funds to one type of bond, their arguments based on their beliefs were sound and being comfortable with whatever you invest in should be true for every investor.

Lisa and Phil

Finally, a growing theme from fixed income investors; Phil and Lisa who had a big portfolio, had invested specifically with their children in mind. Their children live all around the world and so a key driver was to invest in currencies where they reside to have the funds available to them when they travel. Approximately 75 per cent of their portfolio was invested in foreign currency bonds of various currencies in both fixed and floating rates. The funds were already fairly evenly split by currency for the children for ease of transition of the portfolio later on. The Australian dollar investments, which made up approximately 25 per cent of the portfolio, were for their own living expenses and more than half was allocated to inflation linked bonds.

The beauty of buying bonds in the wholesale, over the counter market is that it gives investors control. Investors decide the companies they invest in, the risk they are prepared to take, the return they hope to achieve, the types of bonds, the length of time of the investment and if they want to trade regularly or be “hold to maturity” investors.

Note: Names have been changed to protect the privacy of the investors.