For a long time, bonds have been considered one of the safer investments you can make. They tend to perform well when stocks struggle, and they offer a steady stream of income. But lately, bonds have been under pressure. Interest rates are rising, and that is bad news for bond prices.
What does this mean for the future of bonds in your investment portfolio? When it comes to bonds, there are a few things that you need to keep in mind.
- First, remember that interest rates and bond prices move in opposite directions. This means when rates go up, bond prices go down. Why? When interest rates rise, investors are willing to pay less for a bond that pays a lower rate of interest than current prevailing rates. For example, let’s say you have Bond ABC that pays 5% interest and is currently worth $100. If interest rates rise to 6%, the value of your bond will fall to $94.44. This discount in price will affect the current market value of the bond, but only becomes a reality if the bond is sold prior to its maturity. This relationship between interest rates and bond prices is important to keep in mind when making investment decisions.
- Second, don’t panic. While it is true that bonds are under pressure right now, they still offer some important benefits. For example, bonds can provide stability in a portfolio during periods of high stock market volatility. Additionally, bonds can offer attractive income potential, particularly for investors who are nearing or in retirement. As such, it is important not to make rash decisions about your bond holdings in times of market uncertainty.
While it is certainly true that interest rates have been on the rise in recent months, it is important to remember that this trend will not continue indefinitely. At some point, the Bank of Canada/Federal Reserve will change its interest rate direction and, as a result, bond prices will stabilize.
The bottom line is that bonds can be challenging to own in periods of interest rate increases, but they can still provide stability and liquidity for investors. Bonds may help to offset some of the risk in your portfolio when the stock market is volatile. For these reasons, it is important for many investors to have a mix of both stocks and bonds in their portfolio.
