Fixed income investors have been worried about rising interest rates for years now. Some think we could finally see a sustained rise from current levels. Like all forecasts, predicting the direction of interest rates is much harder than it sounds. No one can tell you where interest rates are heading or when they will start moving to get there but I think the concerns of what happens to bonds from rising rates are probably overblown.
Written by Ben Carlson (awealthofcommonsense.com)
The Wall Street Journal has a useful interactive tool that can show investors how sensitive their government bond holdings are to changes in interest rates. For example, here’s what things would look like if rates rose 1% from current levels on a number of different sovereign bonds at different maturity levels:
…and here’s what would happen if rates fell 1%:
Expected stock market returns a can be tricky to nail down, but bond returns are fairly reliable in terms of how they react to certain variables such as current yields and interest rate movements. The longer the duration and maturity of the bond or bond fund, the higher the variability of prices to changes in interest rates. This makes sense when you consider shorter duration bonds mature sooner, meaning you don’t have to rely as heavily on interest rate forecasts farther out into the future. This past week was a good example of how this plays out in the real world. The yield on the 10 year treasury went from 1.83% at the close of business on Tuesday and shot up around 0.30% to 2.12% by Thursday afternoon as investors tried to figure out what a Trump presidency might mean for inflation and interest rates. It’s still way to early to draw any conclusions about what this all means, but it is instructive to see how various bond maturities performed in this short window of rising rates.
Here’s a breakdown of the losses by various bond maturity ETFs:
