As we have communicated through our blogs in 2023, no doubt we have had a blistering bear market. We have tried to communicate to clients that for the most part we recommend sticking with your long-term plan if possible. As we design long-term financial plans for our best clients focused on delivering reliable retirement income in a way that is tax efficient and with goal of not running out of money, we know that bear markets will happen. We believe that no one can accurately predict every bear market and when it will happen where we know exact date it starts and ends, how long it will last, and how severe they will be.
One of the challenges in 2022 that has happened as the stock market has been down 25 to 30% at the lows, is that traditionally when stocks go down bonds become a haven and can offer positive returns or typically at worst, less far less negative volatility and returns then stocks. Unfortunately, in 2022, as we have had the stock bear market, we have also had one of the worst bond markets ever with bond indexes down 10 to 15%.
At one level, bonds have offered one of their core purposes, they have acted as a buffer to stock market volatility. What I mean with one’s stock’s down in the 25 to 30% range, by having bonds, the overall return is far better than if one had 100% of their money in stocks. However, with bonds being down at historical levels, as investors it has not acted in way most investors have expected them to act in past bear markets. As an aside, the only two places so far that have offered positive returns are commodities and cash. In another article, I will write about cautioning putting all of one’s money in either.
So what happened? Bonds have had one of their worst years due to the main thing we just talked about at our annual seminar which we recorded and in process of editing for all to view. What is driving this bear market is high inflation at 8 to 9% level and subsequent Federal Reserve response not only to raise interest rates but raise them rapidly and at rates they did not initially expect or want to raise.
Bond returns went down dramatically because as interest rates rise bond prices tend to go down. Additionally, many bond investors became skittish and sold much like sell off that occurred in stocks. We always have to remember capital markets are indeed markets where participants run gamut of emotions and buy and sell based on both rational and irrational reasons.
So where do we go from here and how should you look going forward. One as we monitor portfolios and do research with all the partners we have, important message is that bonds still play a major role in one’s portfolio. Bonds have 3 key roles: they act as buffer to stock market volatility, provide income in form of coupon payment, and provide long-term inflation hedge as compared to cash.
Additionally, as we talk to investment professionals, bond prices and yields are attractive going forward. Some of the things we do behind the scenes for you is monitor the following: (1) we look at the different types of bonds such as Government, Corporate, Municipal, and International and believe in diversification just like you have in stocks (2) Also look at duration within bonds which is sensitivity to interest rate changes and want diversification in that as well with short-term, intermediate, and long term and (3) look at bond alternatives. At the beginning of the year we knew interest rates would ultimately go up over long-term (very few thought inflation would be as persistent as it has been and resultant quick interest rate rise) so we had looked at bond alternatives that could provide bond like returns with bond like volatility.
One thing to remember, if you own individual bonds, even if prices temporarily fluctuate, as long as you hold to maturity, you will receive the face value of the bond along with all the coupon payments along the way.
If you have any questions, please reach out to us and set up a meeting to meet with your financial service professional.