While the markets brace for Treasury yields to turn from the three-decade low and prices to pullback, fixed-income exchange traded fund investors shouldn’t automatically head for the exits.
According to the Vanguard Group, investors should not overweight cash and forgo fixed-income assets even as interest rates rise and bond prices fall, reports Jason Kephart for InvestmentNews. Interest rates and bond prices have an inverse relationship.
As the benchmark 10-year Treasury yield rose to 2.5% from 1.66% in May, money market funds gained $64 billion in assets. In contrast, $66 billion was pulled out of bond funds since the start of May. [Bond ETFs Could Shock Pundits In The Months Ahead]
The Barclays U.S. Aggregate Bond Index has dipped 2.2% year-to-date with rates rising. However, while switching over to cash can help maintain your wealth, investors will miss out on the yields. [Fixed-Income ETF Strategies for the Baby Boomer Generation]
“The biggest challenge with moving to cash is, you’re expecting to time interest rates better than everyone else out there,” Chris Phillips, a senior investment analyst at Vanguard, said in the article. “We’ve found pretty consistently over time that the vast majority of active bond portfolio managers can’t even do it. If you’re an adviser, without the same tools, that’s a huge hurdle to overcome.”
Vanguard has found that overtime, with interest payments re-invested, a fixed-income portfolio can hold up as rates rise. For instance, in the hypothetical case where rates rise 300 basis points, Vanguard found that a portfolio of investment-rade bonds would lose 13% over the year, decline 8.5% over two years but provide a total return of 6.3% after the fifth year. [Don’t Forget Bond ETFs Help Diversify Portfolios]
“If you’re reinvesting dividends you can be back in black in a fairly reasonable amount of time,”Phillips added.
For more information on bonds, visit our bond ETFs category.
Max Chen contributed to this article.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.