Investment Q&A

Given the scenario that interest rates rise by roughly 50 basis points into the end of the year and then rates flatten/decrease over the next few years or more, we would consider option three to be the highest risk, given its large concentration in a long-duration asset. Option one is the least risky, however, if interest rates decline, the rates on the money market funds will become less attractive. Option two allows an individual to benefit from the relatively high yields and price stability of short-term bonds, while also having the potential for greater capital appreciation via long-term bonds. If rates decline, we expect the price of both short-term and long-term bonds to benefit, however, we anticipate a smaller drop in the yields on long-term bonds than short-term bonds, thereby reducing the decline in yields on the portfolio. 

The price decline in bonds that we have seen over the past year has been unprecedented, and we feel that the risk-reward of owning bonds here is much better than in previous instances when interest rates had much more room to move higher. 

It is not a linear calculation but depends on bond duration, convexity, and other factors, but as a general assumption, if rates fall from 5% to 2% to 3%, we can expect long-term bonds to perform well. We like the stability that we are seeing in bonds right now, and a barbell approach offers an investor more flexibility and diversification than a more concentrated approach.