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Looking at bonds ETF like ZCS. It generates ~3% interest yearly. However when looking at ZCS trading value, it decreased about 3% this year.

Question: If I had bought shares of ZCS a year ago and sold it today, then the profit from the interests would have been nullified by the loss in value?

  • For starters, are you aware that's a short fund? "BMO Short Corporate Bond Index ETF" – quid Mar 8 '18 at 18:59
  • No I didn't, thanks for pointing it out. What about XBB (iShares DEX Universe Bond Index Fund)? Is it a better example? – Milo Mar 8 '18 at 19:12
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    @quid It's not a fund that short-sells bonds. It is a fund that holds short-term bonds, i.e. short duration. – Chris W. Rea Mar 8 '18 at 21:01
  • @ChrisW.Rea good catch. – quid Mar 8 '18 at 21:02
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Bonds are assets, assets fluctuate in value. It's very normal for a bond to fluctuate in value, it won't necessarily correlate to the bond's yield, you happened to find a situation where the decline in principle value roughly correlates to the yield, this is atypical.

Additionally, the purported yield can change based on how it is calculated; ie, trailing distributions, current distribution annualized, forward expected distributions.

  • Trailing distributions: the sum of the last 12 monthly (or 4 quarterly or whatever) distributions divided by unit price
  • Current distribution annualized: the most recent distribution times the number of distributions (12 for monthly, 4 for quarterly whatever) divided by unit price
  • Forward expected distributions: some calculation based on the expected change in distributions in the future divided by unit price.

Another thing to consider, bond values have an inverse correlation to interest rates.

(this is going to be a very simplistic example)

If interest rates are on the rise the value of existing bonds decreases. For simplicity, take a "no coupon" bond (there are no interest payments, the bond is simply sold at a discount) with a face value of $1,000 and a yield of 5%. In this situation you pay $950 for the $1,000 bond, and at maturity it pays you $1,000; $1,000 - $950 = $50 that's your 5%. Lets say you want to sell your bond, but now interest rates are 6%. A buyer can choose to buy a bond with a 6% yield for $940, or your bond for $950; either way they get the same $1,000 at maturity. The buyer would obviously choose the $940 bond (obviously ignoring holding period differences for the sake of simplicity), to entice buyers you'll have to drop the price of your bond.

In reality this calculation gets rather complicated because of time and coupon payments, but the general concept is as interest rates rise bond values fall in order to entice buyers. Over the last year interest rates have been rising so the values have been falling, if you look back a few years while interest rates were collapsing, the values were increasing. This is a very important distinction between bonds and equities.

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