Investing - Theory, News & General • Re: Bill Sharpe's preferred portfolio

Opinions are divided on government bonds with reasonable arguments both ways. But the case for including corporate bonds in WBS is more clear cut. Some portion of earnings goes toward paying corporate bond interest. So you need to be a bondholder as well as a shareholder in order to receive the full public claim on corporate earnings. (In fact, as a shareholder you effectively own part of the liability for the debt with none of the upside, and issuance of new corporate bonds correspondingly decreases share price.) More info in the Components of the Market Portfolio section of Sharpe's RISMAT Chapter 7.

I'm going to highlight this because it's so often overlooked.

That is nice in terms of “academic completeness”, but does it actually matter in practice? A while ago I read the “Little Book of Common Sense Investing” by John Bogle, and in the first chapter, there is a chart that plots total corporate earnings vs total stock return for the largest traded public companies. Over several decades, the total earnings and total return end up at exactly the same place (within 0.01% or something like that). I don’t believe corporate bonds were included in that chart.

The largest, most successful companies (that dominate a total market index) are typically flush with cash and do not need to take on debt to fund their operations. If they do take on any debt, it is only when it is very favorable to the company (and not the bond holders). Thus, my theory is that only smaller or struggling companies have debt payback as a significant use of corporate earnings.

Anyway, while I admit that bond interest are a part of corporate earnings, I’m guessing that it is negligible in the grand scheme of things, and that holding VT alone will match 99% of the total earnings over the long run. It is probably similar to holding VOO vs VTI? I would love to see some data on this point.

Statistics: Posted by watchnerd — Mon Oct 07, 2024 11:20 pm