Wednesday, July 17, 2013

Fear of Bonding?

When clients want to discuss bonds with me on a daily basis, I know bond angst has made the mainstream. Bonds are supposed to be boring, but they can become un-boring, in a bad way, when interest rates start to rise rapidly. My clients' eyes nearly always glaze over when I talk about how bond values fluctuate when interest rates change.

Bonds are simple debt investments that you are supposed to use more frequently as you approach or enter retirement. Bonds are in the news recently because interest rates are starting to increase after years of impossibly low rates. As rates rise, values of bonds and bond funds will decline. The longer the duration of the bonds, the steeper the decline.

So it must be time to sell all of your bonds, right? Probably not, unless you will need to spend these funds within the next two years. Panic is rarely the best strategy.

Bond funds, over time, tend to compensate for their loss in value as higher yielding bonds replace lower yielding ones. If you don't need your funds for five years or more, hanging on to what you have is probably the best strategy.

There are several strategies if you want to sell your bonds:

1) Convert your money to cash, but then your earnings are low and vulnerable to inflation. At some point you need to decide when to invest again.

2) Convert your long-term bonds to very short-term or adjustable-rate bonds. This decreases volatility, but also reduces yield.

  3) Invest in stocks or real estate or gold, but these are not without their own risks and volatility.

In conclusion, as I end most of my commentaries, my advice is to invest for the long-term, rebalance and diversity. Also remember: when nearly all the experts agree on what will happen next, they are sometimes wrong.