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Bonds have been in the doldrums since last May, when yields sank to record lows. That triggered the Great Rotation into stocks, pushing equities to all-time highs of their own.
But that doesn’t mean you shouldn’t own bonds. Yesterday I wrote that investors need to lower their expectations and accept smaller returns for the time being. Today I have two more tips.
2. Dial down your duration: If you own fixed-income investments, particularly bond funds and ETFs, look closely at the duration. The value of longer-term bonds gets hit hardest as interest rates rise, while the price of short-term bonds is less sensitive to rising rates.
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| Energy master limited partnerships can deliver bond-like income without as much risk from higher interest rates. |
For instance, 30-year Treasury bonds, which are more sensitive to interest rates, plunged 15.1 percent in value last year, but 10-year Treasuries declined only half as much.
If you hold individual bonds, you’ll want to carefully consider the maturities of the bonds in your portfolio. Shorter-maturity bonds will hold up better as yields climb. For bond funds and ETFs, the key measure is called duration, essentially the average dollar-weighted maturity of all bond holdings in the fund.
Again, funds with a lower duration will hold up better as interest rates rise because the fund will be able to reinvest at higher yields more quickly.
3. Consider bond surrogates: It’s likely that income-oriented investors will face the persistent headwind of steadily rising interest rates for many years to come: the exact opposite of the bond-market environment over the past 30 years.
If so, you’ll want to consider moving beyond bonds with your asset allocation and instead consider bond-like investments that also provide income.
For example, energy master limited partnerships (MLPs), real estate investment trusts (REITs) and funds or ETFs that invest in higher-yield preferred stocks can deliver bond-like income without as much risk from higher interest rates. In fact, I have personally researched and recommended several ETFs that yield more than 30-year Treasury bonds, including some that pay monthly dividend income.
And then there are just plain-old blue-chip stocks. Many large-cap stocks in the S&P 500 Index offer dividend yields that match or exceed the income generated from long-term bonds. Of course, stocks face unique risks of their own, but if you focus on high-quality companies with little or no debt and a consistent track record of growing dividends, you can have the best of both worlds: current income, plus the potential for a growing yield over time and capital appreciation, which bonds just can’t match.
Good investing,
Mike Burnick
Mike Burnick, with 30 years of professional investment experience, is the Executive Director for The Edelson Institute, where he is the editor of Real Wealth Report, Gold Mining Millionaire, and E-Wave Trader. Mike has been a Registered Investment Adviser and portfolio manager responsible for the day-to-day operations of a mutual fund. He also served as Director of Research for Weiss Capital Management, where he assisted with trading and asset-allocation responsibilities for a $5 million ETF portfolio.