It is no wonder that bond investors have felt pretty good about the last three decades. From the start of 1980 to the end of 2010, the annualized real (inflation adjusted) return on government bonds was 6.0% in the USA, broadly matching the 6.3% long-term performance of equities (Credit Suisse Global Investment Returns Yearbook 2011.) Bond investors have almost forgotten that over the preceding 80 years, US government bonds had provided an annualized real return of only 0.2%. “Well, at least bonds don’t have equity-like drawdowns” some investors might say. They would be correct — they’re worse!
From Credit Suisse:
A crucial question is how deep portfolio drawdowns can be, and how long it takes to recover from them. To answer this question, we compute the cumulative percentage decline in real value from an index high to successive subsequent dates. This indicates just how bad an investor’s experience might have been if the investor had the misfortune to buy at the top of a bull market. As we shall see, although equities have provided a higher return than bonds, they can experience deeper drawdowns — yet there have also been long intervals of deep bond drawdowns. All returns include reinvested dividends and, unless stated to the contrary, are in real (inflation adjusted) terms.
(Click to Enlarge)
How well do bonds protect an investor’s wealth? Figure 2, shown above, plots the corresponding drawdowns for government bonds (red) and equities (blue). Historically, bond market drawdowns have been larger and/or longer than for equities!
In the US bond market, there were two major bear periods. Following a peak in August 1915, there was an initially slow, and then accelerating, decline in real bond values until June 1920 by which date the real bond value had declined by 51%; bonds remained underwater in real terms until August 1927. That episode was dwarfed by the next bear market, which started from a peak on December 1940, followed by a decline in real value of 67%; the recovery took from September 1981 to September 1991. The US bond market’s drawdown, in real terms, lasted for over 50 years.
Given the massive flows into fixed income and out of equities over the last couple of years, this information is completely off investor’s radars.
HT: World Beta
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