More tortoise than hare, bonds serve a practical purpose
It’s tough being a bond these days.
With 5-10 year interest rates near generational lows, bonds do not look very attractive. They lack pizazz and are largely ignored by the financial media. Bonds can be confusing and hard to understand. When you consider your bond investments and their lackluster returns, do you wonder why you own them?
On the other hand, stocks are exciting! They’re diverse, interesting and unpredictable, and their market performance has crushed bonds over the last 10 years1. The financial paparazzi cannot get enough of stocks. Perhaps it’s time to boot bonds from the party. They drag everything down, from their owners to portfolios’ performance. Who invited these bonds, anyway?
Well, we did – for several reasons -and we’re confident you’ll appreciate their unique characteristics.
- Bonds, with more stable returns, buy us time when stocks, real estate and other growth assets experience volatility and depressed prices. Recoveries can take years, and high-quality bonds can provide capital that allows us to hold, not sell off, good assets (stocks) at bad prices.
- Bonds may allow for a quicker recovery after a major stock market correction or bear market. Math plays a tricky game with our money when we lose it. If the stock market (and your portfolio) falls 33%, it takes a 50% gain just to get back to even. However, if your portfolio only falls 10%, an 11.1% gain is needed to recover. If you are taking distributions from your portfolio, limiting significant losses becomes critical. High-quality bonds help soften the blow and provide resources to draw from when stocks are down.
- Finally, when stocks fall dramatically, part of your high-quality bond exposure can be used to rebalance to stocks at more favorable prices. Strategically rebalancing back to your target allocation is our disciplined way of buying low and selling high – without timing the market.
So let’s hear it for bonds! They may not be the life of the party, but high-quality bonds know their role and are a way to keep the party going while minimizing pain the next day. One way to reduce stock market risk is to extend your time horizon. High quality bonds extend our time horizon. We do not invest in bonds because we believe they will be the best performing asset class on average and over time. We invest in bonds to buy us time to participate in the best performing asset classes. You have likely heard or read the edict, “It’s time, not timing, that builds wealth.” Bonds buy us time.
Footnotes:
- From 2009 – 2018 the Barclays Aggregate Bond had a 3.52% average return over the 10-year period. Large Cap Stocks represented by the S&P 500 Index, which measures the performance of the large‐cap segment of the U.S. equity universe had a 13.65% average return. Mid Cap Stocks represented by the Russell Midcap Index, which measures the performance of the mid‐cap segment of the U.S. equity universe had a 15.05% average return. Small Cap Stocks represented by the Russell 2000 Index, which measures the performance of the small‐cap segment of the U.S. equity universe had a 13.04% average return. International Stocks represented by the MSCI EAFE Index (Europe, Australasia, and Far East), which is a widely followed index of common stocks from 22 developed market countries had a 7.40% average return. Emerging Markets represented by the MSCI Emerging Markets Index, which measures the performance of stocks in emerging market countries had an 11.53% average return.
