Is it a good or bad time to buy bonds?
While it may be a great time to buy, hold, and ladder bonds, the outlook is also bright for investors in funds that manage bonds with an eye to making money as prices rise.
Another common type of investment you might consider adding to your portfolio: bonds. And some experts argue that this particular investment class is on the up and up and worth considering ahead of the new year.
Here are 3 reasons why now's a good time to evaluate the role of high-quality fixed income exposure in your portfolio. Bonds are providing healthier yields than we've seen since before the 2008 global financial crisis. Higher current yields support a much-improved outlook for bond returns going forward.
Strong demand should support bonds in 2024
Many who left the bond market when yields were rising should return to lock in today's higher yields. The Bloomberg U.S. Aggregate Index currently has a yield of around 4.6%.
However, at the risk of repeating the message from last year, bonds still look particularly cheap – and conditions may now be turning in their favour, if the price recovery in late 2023 is to be believed. As ever, selecting the right instruments will be key, and so too may be having a stomach for volatility.
Including bonds in your investment mix makes sense even when interest rates may be rising. Bonds' interest component, a key aspect of total return, can help cushion price declines resulting from increasing interest rates.
Key central bank rates and bond yields remain high globally and are likely to remain elevated well into 2024 before retreating. Further, the chance of higher policy rates from here is slim; the potential for rates to decline is much higher.
The Corporate Bond Market Outlook for 2024
While our base case is that the rate of economic growth will slow over the first three quarters of the year, we do not expect the U.S. economy will slip into a recession. As such, we expect that downgrades and defaults will remain close to historically normalized levels.
The top picks for 2024, chosen for their stability, income potential and expert management, include Dodge & Cox Income Fund (DODIX), iShares Core U.S. Aggregate Bond ETF (AGG), Vanguard Total Bond Market ETF (BND), Pimco Long Duration Total Return (PLRIX), and American Funds Bond Fund of America (ABNFX).
Bond prices move in inverse fashion to interest rates, reflecting an important bond investing consideration known as interest rate risk. If bond yields decline, the value of bonds already on the market move higher. If bond yields rise, existing bonds lose value.
What will I bonds do in May 2023?
The composite rate for Series I Savings Bonds is a combination of a fixed rate, which applies for the 30-year life of the bond, and the semiannual inflation rate. The 4.30% composite rate for I bonds issued from May 2023 through October 2023 applies for the first six months after the issue date.
Rising interest rates directly caused stock and bond prices to fall in 2022.
We think bonds will prove their worth again as a source of income and a diversifier to equities. There should be more opportunities ahead, even if investors need to traverse some moguls in the economy.
Impact of Inflation on Fixed Income Investments
Bond prices are inversely rated to interest rates. Inflation causes interest rates to rise, leading to a decrease in value of existing bonds. During times of high inflation, bonds yielding fixed interest rates tend to be less attractive.
If sold prior to maturity, market price may be higher or lower than what you paid for the bond, leading to a capital gain or loss. If bought and held to maturity investor is not affected by market risk.
Better things lie ahead for bonds, but the prospects for stocks, especially U.S. equities, are less rosy. Those were the recurring themes among the capital markets assumptions provided by major investment firms as 2023 wound down.
Small-cap stocks are trading at attractive valuations as analysts see the possibility of a rebound in 2024. The time could be right for locking in rates on long-term, high-yield bonds. Commodities may be poised for gains as demand outpaces supply.
Cons: Interest Rate Risk: Long-term treasuries are more sensitive to changes in interest rates than short-term ones. If interest rates rise, the value of existing long-term bonds may decline, leading to potential capital losses.
If interest rates are rising in an economy, the existing T-bond and its fixed interest rate may underperform newly issued bonds, which would pay a higher interest rate. In other words, a Treasury bond is exposed to opportunity cost, meaning the fixed rate of return might underperform in a rising-rate environment.
Treasury bonds tend to pay higher interest than the shorter T-bills and notes to compensate investors for the interest rate risks they take with their purchase. Keep in mind the opposite can also happen when interest rates fall and the price of your bond increases.
Is it better to invest in stocks or bonds?
Given the numerous reasons a company's business can decline, stocks are typically riskier than bonds. However, with that higher risk can come higher returns. The market's average annual return is about 10%, not accounting for inflation.
Stocks offer ownership and dividends, volatile short-term but driven by long-term earnings growth. Bonds provide stable income, crucial for wealth protection, especially as financial goals approach, balancing diversified portfolios.
Most bonds pay a fixed interest rate that becomes more attractive if interest rates fall, driving up demand and the price of the bond. Conversely, if interest rates rise, investors will no longer prefer the lower fixed interest rate paid by a bond, resulting in a decline in its price.
U.S. Treasury Bills, Notes and Bonds
U.S. Treasury securities are backed by the full faith and credit of the U.S. government. Historically, the U.S. has always paid its debts, which helps to ensure that Treasurys are the lowest-risk investments you can own. There are a wide variety of maturities available.
As for fixed income, we expect a strong bounce-back year to play out over the course of 2024. When bond yields are high, the income earned is often enough to offset most price fluctuations. In fact, for the 10-year Treasury to deliver a negative return in 2024, the yield would have to rise to 5.3 percent.
