Some confusion about bonds / CD's

[CardMinger]

As I am getting more and more bearish on the market as a whole I am looking to diversify my stock holdings with something a little more stable such as bonds / CD's. I currently own Vanguard's S&P 500 fund so I was looking at some vanguard bond funds.

One I was thinking about was VUSTX, Vanguard Long-Term U.S. Treasury. This is yielding 4.33% at the moment. The only problem with this is that I expect interest rates to rise which I believe will push the prise of these bonds, and hence the price of shares of VUSTX down (please correct me if I am wrong...).

Then I took a look at bankrate.com and see that ING has a relatively short term (1 year) CD at 4.15% APY. Why would it make sense for me to invest in the Vanguard fund and risk a loss of principal? The only reason I can see is that there is potential for a growth of principal but it does not look like much according to the chart.

Does anyone else have another reason to justify investing in the Vanguard fund? It does not seem to me that the extra % of yield would justify the risk but perhaps I am not taking into account the possible gain either.

Also as far as I understand since CD's are FDIC insured up to 100K then they are just as safe an instrument as Treasury bonds.

Also as an aside...how can ING bank always offer the best CD rates? Is it simply their size and low overhead or is there something somewhat tricky that I do not understand.

Thanks!
Kevin

[Sniper]

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Also as an aside...how can ING bank always offer the best CD rates? Is it simply their size and low overhead or is there something somewhat tricky that I do not understand.

[/ QUOTE ]

They borrow money from you at 3-4%, and loan it out to others at 6-7%... pretty simple formula [img]/images/graemlins/wink.gif[/img]

[FishHooks]

I think he knows that, but he is asking why ING is the best.

Its probably just competition, they higher intrest rate the give to the consumer the more people will do business with them. That means more money they have to loan out. Also short term intrest rates are being hiked up, that probably adds to it as well.

[laserboy]

The fund should be more liquid than the CDs.

Depending on the CD, you may be required to hold it for the full year or pay penalties to cash it in before the year is up. With the fund, you should be free to trade it after a specified short term holding period.

Regarding ING, I understand that ING is very strict about keeping overhead to a bare minimum. For example, if you call customer service too many times, they will close your account because you are too high maintenance for them.

VUSTX has two advantages over a CD:
-If interest rates drop, its value will increase
-You can sell it whenever you want with no penalty

It has the disadvantage that if interest rates increase, its value will decrease.

You're right that interest rates are more likely to increase than decrease, so if you know you're not going to need the money for a year, do the CD. You might also look at short term bond funds, which are not nearly as vulnerable to capital losses following interest rate increases. Money market funds aren't that bad either--ING's is paying something like 3.15%.

[CaliStyle]

If you transfer money to a PAY PAL account and set up the money market fund there you get a 3.28% return right now. That is pretty good for just letting your money sit there at no risk.

[TN_POKER_MAN]

the yield curve is fairly flat right now. Short term rates are rising and long term rates haven't done too much (just look at mortgage rates).

I would not advise going too long with your bond duration. Then again, i don't like bonds. I prefer dividend paying equities.