the longer the bond maturity, the bigger the effect of falling rates on your capital gain.
actually, it's more accurate to say the longer the duration, the bigger the effect of falling rates. the longest duration bonds are zero-coupon. a zero-coupon bond has a duration equal to its maturity, while a coupon bond's duration is always shorter than its maturity. so the most aggressive long-bond bulls will theoretically* tend to buy the zeros, even if the available issues may be a bit shorter in maturity than the available coupon bonds.
as an aside, as you know, Gary Shilling likes to point out that a constant-maturity 25yr zero (where one buys a 25yr zero on Jan 1, then sells it a year later and buys the next 25yr zero) beat the SPX over the course of the bull market from 1981. however, what Shilling does not mention is the poor liquidity of these bonds, where one might take a 5% haircut on the spread, thus making the yearly sale and purchase much less attractive.
this also causes me to wonder how Hoisington figures the amount the zero gains during the course of a year. if they say a zero gains 16%, but there's a 5% spread, what is the real gain? not to mention what selling in institutional size could do to the spread.
* i bought the zeros last year in my long-bond phase early in the year. by luck, i had very good timing on my entry and exit points, but my gains were considerably less than the "theoretical" because of the huge spreads. for zeros and coupons of like duration, the zeros trade at a discount, in part due to the liquidity issue, i think. |
