Retirement and Bonds - Time to Remember How Bonds Work
Dan Moskowitz, CFP® February 20, 2018
The thirty-five-year bull market has clouded many bond buyer’s perspective. The chart below shows interest rates dropping from 1981 through 2016. No matter what bond you bought or what type of bond vehicle you chose you were bound to do well.
CWM has been telling our clients that the improvement in the economy would allow the US to move from a historically low interest rate environment that was brought on by the global financial crisis to a more traditional (higher) interest rate environment. The chart below shows this has finally begun. The rate on the US two-year government bond (green) has almost doubled in the last six months from 1.30% to 2.19% today. The ten-year government bond has gone from 2.20% to 2.87%. If you bought this bond six months ago, you have lost more than 5% on a total return basis.
Conclusion: If we are in a gradual rising interest rate environment, then it is time to rethink conventional wisdom on bonds.
- Why lock into long term bonds if rates are moving higher? Buy shorter duration bonds instead
- Why buy a bond mutual fund? There is no point in which you are guaranteed to get your money back. Buy individual bonds that will give your principal back to you on a definitive date.
- Beware of “Target Date Funds” - Target date funds are built for people retiring in a certain time period. If the target date is less than ten years they typically are laden with fixed rate bond mutual funds. This is a terrible idea in a rising interest rate environment.
- Don’t buy leveraged closed end bond funds – These are like bond mutual funds on steroids and if rates rise you will be hurt even more than typical bond mutual funds.
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