Unless you have been hibernating this year, the bond market received quite a shock this past May and June when it experienced losses for the first time since the financial crisis in late 2008. In reality, you’d have to go back to 1994 when bonds lost as much as they did in June. The reason for the loss was the dramatic and unexpected rise in interest rates from about mid-May to mid-June. Interest rates rose nearly 100 basis points over that span due mostly to fears that the Federal Reserve will begin terminating its bond buying program sooner than later.
In an effort to strengthen the economy and the residential real estate market, the Fed has tried to keep interest rates artificially low by purchasing mortgage bonds. The fear of the Fed terminating its program sent bond investors to the sidelines. As a primer, when interest rates fall, bond values go up, and vice versa. The increases and decreases are amplified when you take maturity into consideration. Longer maturity bonds are more negatively impacted by rising rates and vice versa.
The May to June swoon in bond prices is a timely wake-up call to all investors that had been complacent with their bond allocations and the types of bonds they were using in their investment portfolios. At Bloom Asset Management, our Investment Committee has generally emphasized using shorter to intermediate bond funds as a way to keep interest rate risk lower. We’ve also been key proponents of diversification and owning more than one or two types of bonds in a long-term portfolio. However, this most recent rise in rates impacted nearly all bonds with short to long term maturities. Hence, there was literally no place to hide. But this is not the time to panic and sell your bond funds.
Fortunately, the situation is not as dire as some in the media have portrayed. Here are some thoughts on how you can improve your bond allocations within your retirement plans and overall portfolio:
-Don’t succumb to media hype that it’s time to rotate out of bonds and into stocks. That is short-sighted and foolish advice. Stocks have historically had far greater volatility than bonds have ever experienced. The stock and bond relationship has been a long-term winner for decades. They have been very effective ingredients to long-term investment success.
-Dollar cost averaging into bonds whether rates are rising or falling over the long term is the best approach and 401(k)’s are ideally suited for this approach. This approach helps smooth out those times when volatility is high.
-If your bond fund choices in your 401(k) are limited, then seek out the retirement plan administrator at your company and see if they would consider adding additional bond options. If you need help, then seek out the help of a professional like Bloom Asset Management.
-Take advantage of other investment accounts you may own, such as Individual Retirement Accounts (IRAs) and non-retirement accounts
It is hard not to get concerned about certain investments when the financial news media continues to focus on something day in and day out. But remember, investing is about meeting your long-term financial goals, not the day-to-day gyrations of the TV financial “gurus.” Even with the upheaval in the bond market, there are still viable types of bonds that you should consider to help round out your portfolio going forward.