Why ‘The White Coat Investor’ Is Giving Up His TIPS Ladder

“The White Coat Investor” Jim Dahle has a message for bond haters: “Most of the time, in most time periods and over most time horizons, bonds do outperform cash.”

The author and emergency room doctor shared that insight on a recent episode of The Long View podcast, where he also said he’s simplifying his own bond portfolio by replacing a Treasury Inflation-Protected Securities ladder with an exchange-traded fund.

Other notable quotes from our wide-ranging conversation:

• His too-hard pile: “At the end of the day, investing is a single-player game. It’s you against your goals, and you only need a strategy good enough to reach your goals, and then you won the game.”
• Private investments: “We don’t realize what a wonderful blessing it is for us to be able to have the transparency and the rules-based market that we do to be able to invest. Obviously, that’s only present for publicly traded investments.”
• Lessons from the ER: “There are things that are more important than money in life. One of those is your health and one of those is your family. ... [Money] is a tool to help you to build happiness, to build productivity, to build purpose and goodness and to help others in your life, and ... the game isn’t just about dying the richest person in the graveyard.”

In the excerpt below, Dahle discusses holding cash instead of bonds, who could benefit from TIPS, and his TIPS ladder decision.

Can Cash Replace Bonds in Your Portfolio?

Christine Benz: I wanted to ask, Jim, about [the] cash versus bonds question. I know quite a few people who have that equity-cash barbell, where they don’t really have much room for bonds and don’t see the case for them. I started to wonder: Is that the worst thing in the world, having a higher allocation to cash-type assets and maybe very little in fixed income? What’s the downside?

Jim Dahle: No, I think it’s a completely reasonable position to take. It’s essentially a Larry Swedroe position. He says, take your risk on the equity side, keep your bonds very safe, very high quality, very short term. Short-term Treasuries, for instance. Well, the shortest-term bonds are cash, right? That’s what cash is. They’re very, very short-term bonds. You’re really not running interest rate risk. It’s a reasonable position to take. Theoretically, instead of having 25% in bonds, maybe you have 20% in cash, and the rest in equities, and that’s probably about the same expected performance long term.

However, I think people are, again, just looking in the rearview mirror and saying, “Oh, bonds have crappy returns.” And well, cash made 3% or 4% the last few years, whereas bonds made nothing or 1%, or I don’t know what it is, probably depends on exactly what type of bonds you’re looking at.

But again, any period of time that includes 2022 for bonds looks pretty bad in the rearview mirror. And what people forget is that most of the time, in most time periods and over most time horizons, bonds do outperform cash. That’s just the way the yield curve normally is. When you take more interest rate risk, the yield is higher, and the best predictor of your long-term returns is the current yield.

People forget that if interest rates stay about like they are right now, bonds are going to outperform cash. If interest rates fall, bonds are going to dramatically outperform cash. And if interest rates rise, of course, in that situation, the shorter term you have on your fixed-income portfolio, the better. Obviously, if rates are going up, you’re better off in cash than you are in bonds, especially longer-term bonds.

Who Should Own TIPS?

Amy Arnott: Among people who do own bonds, we’re seeing a lot of enthusiasm for TIPS, Treasury Inflation-Protected Securities. Real yields on TIPS are the highest they’ve been since 2008. A lot of people are worried about this kind of sticky inflation that we’ve been seeing, and TIPS can protect against that. Do you think that TIPS mainly make sense for people who are actively spending down from their portfolios in retirement, or does anyone who owns bonds need TIPS?

Dahle: I love TIPS. You’re talking to a TIPS enthusiast. I mean, the biggest risk for bonds is inflation, right? Inflation devastates nominal bonds, especially long-term nominal bonds. I mean, you do not want to look at what your bond returns were in the ’70s when inflation was high. It’s just really, really bad. TIPS can help protect against that. Now, they’re not this perfect inflation hedge. People learned that in 2021, 2022. Real rates went up 4%. And so, yes, the value even of TIPS went down, not as much as nominal bonds, but they did go down. You’ve got to keep in mind what TIPS really are, which is this long-term locking in of real income in the long run. It doesn’t mean the value of them doesn’t fluctuate as they go along. I think if you’re going to invest in bonds, I think you ought to include TIPS in that portfolio.

Since I started investing when I had a four-figure portfolio, we added some bonds to it, and we included TIPS. We’ve always split our bonds half nominal, half TIPS. I think they’re a great investment.

They’re particularly useful, I think, for people who are trying to lock in a liability-matching portfolio, especially around the time of retirement. I think even buying individual TIPS and planning on that being all they’re spending—or at least their essential spending, for the year that the TIPS matures—can be a very savvy way to avoid sequence-of-returns risk. I think there’s a place for TIPS in many people’s portfolios. I would not say ignore them until you’re retiring, unless you’re ignoring bonds completely. If you’re looking at bonds, I think TIPS are one of the best kinds of bonds out there.

Why Dahle Is Switching From a TIPS Ladder to an ETF

Benz: Just to follow up on that idea of a laddered portfolio of TIPS bonds maturing throughout my years in retirement, how do you come down on that question of individual bonds, whether TIPS or individual nominal Treasury bonds versus a fund? Do you have a clear preference? What is it?

Dahle: I’m a little bit agnostic. I have tried both. What I have discovered is it was a little more of a hassle than I was willing to deal with to build out a long TIPS ladder. I think it’s a very great strategy. It’s a wonderful strategy for somebody who’s retiring with just enough, meaning they want to spend approximately 4%-ish of their portfolio. Thankfully, we’ve been lucky enough, or blessed enough, or whatever you want to call it, that we’re probably going to be spending significantly less than that.

The sequence-of-returns risk strategy that we’re going to be using is mostly just not spending that much of our portfolio. We don’t necessarily need a great other sequence-of-returns risk solution like a TIPS ladder. And the truth is, when you’re building a TIPS ladder, what you really have is you’ve built a fund, right?

When you look at your 20 or 30 individual TIPS each maturing in a different year, that really doesn’t perform all that differently from a fund with the same duration as your overall portfolio. Although it’ll cost you a little bit to buy a fund—maybe it’s 5 or 10 basis points from a good bond fund—it’s worth the convenience for us. We decided just to use a single TIPS ETF, and we’re slowly liquidating that bond ladder that we had started constructing just because it was too much of a pain.

I turned to Katie, my wife, and said, “Do you want to deal with this if something happens to me?” And she said, “No, let’s just put it in a bond fund. We have enough money.” And that’s what we’re doing.

I think you can make a good case either way. I think it’s more important if sequence-of-returns risk is more significant in your life to be thinking about these things, to be thinking about building a TIPS ladder, to be thinking about using a single premium immediate annuity or two or three, to be thinking about delaying Social Security until 70, to be thinking about these things that people do to put a floor under the retirement spending to make sure they don’t run out of money to protect against sequence-of-returns risk.

Listen to the Full Episode

That’s just an excerpt from our recent episode of The Long View, but you can listen to the full conversation below (or read the transcript at this link).