A Silver Lining For Bonds If Interest Rates Rise, From Stephen J. Huxley, chief investment strategist at Asset Dedication Over the past few years, declining interest rates have caused the market value of fixed income holdings to increase. Rising rates, as many advisors are anticipating this year, will have the opposite effect, causing the market value of money invested in bonds to fall. If interest rates rise in rapid fashion, the drop in value will give financial journalists a field day describing what they will call the bursting of yet another bubble—the bond bubble. (This raises another question: does every decline mean there must have been a “bubble?”). But rising interest rates have a silver lining. For retirees who use a dedicated portfolio that ladders bonds and hold them to maturity in quantities that match their cash withdrawals, higher interest rates are a welcome sight. Rising interest rates mean that someone setting up their cash flow matching ladder for the first time will pay less to get that secure income stream (coupon plus interest). For example, if a bond ladder to provide a protected 8-year stream of $50,000 a year plus 3% inflation each year costs $400,000 right now, higher interest rates next summer may drive the cost down to $360,000. Unfortunately for those who rely on bond funds for their fixed income allocation, the value of their fixed income investments will likely decline—unless they happen to be lucky enough to buy one of the few bonds funds that wins its gamble on future interest rates.
Time to Hedge, From Christopher Sheldon, director of investment strategy at Bank of New York Mellon
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