In an environment of rising interest rates, there’s been virtually nowhere for investors to hide in 2022, with losses across the board in both bond and stock markets.
The challenge for families investing in Bonds as a core investment and wanting to achieve life goals is also imminent. From the beginning of this year, the global bond index was down more than 12%. In Israel, as of 22 May 2022, the Government bond index was down 6.15% vs Tel Aviv 35 which was down only 4.47%. In the US the US treasury Long Term Government Bonds were down 20% as opposed to the S&P which is down 18.1%.
The question is what are our options? I met with Ohad Weigman the chairman of GlobalNet Investment House to discuss this.
Dan: It is not logical that I should buy bonds when interest rates are low?
Ohad: These low returns are a major reason why certain investors don’t want to invest in bonds in a low-interest-rate environment, relative to stocks and other securities. Another potential detractor is that in a low rate environment, rates have much more room to move up than down (since rates are nominally bounded by 0%).
Dan: Can you lose money in a bond fund?
Ohad: Traditionally bonds are often considered less risky than stocks, and for the most part, they have been, but that does not mean you cannot lose money owning bonds. Bond prices decline when interest rates rise when the issuer experiences a negative credit event, or as market liquidity dries up.
Dan: What are the 5 types of bonds?
Ohad: There are five main types of bonds: Treasury, savings, agency, municipal, and corporate. Each type of bond has its own sellers, purposes, buyers, and levels of risk vs. return. If you want, you can also buy securities that are based on bonds, such as bond mutual funds.
Dan: Why are the bonds not doing well?
Ohad: The culprit for the sharp decline in bond values is the rise in interest rates that accelerated throughout fixed-income markets in 2022, as inflation took off. Bond yields (a.k.a. interest rates) and prices move in opposite directions. The interest rate rise has been expected by bond market mavens for years.
Dan: What are the pros and cons of bonds?
Ohad: traditionally the pros for Bonds are: they should give the Investor a fixed return, bonds are Less Risky Compared to Other Investments, and Bonds are better investments than bank deposits. The Traditional Cons are: bonds yield lower returns than stocks, You need a larger investment sum needed for bonds to invest in bonds, and bonds can default.
Dan: What can we expect shortly and what are the alternatives for bonds?
Ohad: Interest rates are still poised to rise, which is bad news for bonds. Investors seeking a measure of safety along with the possibility of a return have a few choice alternatives to consider instead. Most people think bonds are safe, but in today’s volatile climate, they are not.
In the not-too-distant past, bonds were portrayed as a secure part of a portfolio – a safer investment than stocks. Investors looked to government bonds as the bedrock of a stable retirement income. But bond yields are extremely low these days, prompting investors to seek alternatives. This has sparked renewed interest in various investments that can generate passive income and stability.
Most people don’t remember what a bad bond market looks like because we haven’t seen one for 30-plus years! We’ve had steadily declining interest rates since the mid-1980s. Bond prices move in the opposite direction of interest rates. If interest rates rise, bond prices fall, and vice versa. The Federal Reserve has indicated it will be raising interest rates again in 2022 and slowing its purchase of bonds, so the climate is likely to be less favorable for long-term bonds going forward. And with bonds paying historically low-interest rates, long-term bonds falling in price could mean a low-yield investment for years.
To avoid getting trapped while the outlook on bonds is not all that bright, here are some alternatives that can provide more security and a decent rate of return:
Fixed annuities and fixed index annuities
Fixed annuities, sold by insurance companies, offer long-term tax-deferred savings and monthly income for life. They involve an upfront payment by an investor for a series of guaranteed income distributions from an insurance company. The insurer guarantees the buyer a fixed interest rate on their contributions for a specific period.
This is the best-known alternative is real estate income-generating assets. The RE investment space is enormous; investors can target specific real estate segments and diversify across different segments. Usually, they get 90% of the profits.
One example is real estate investment funds. An example of a successful real estate investment fund is supported housing funds that provide access to the UK residential property market. The fund invests in a specialized property portfolio within the supported living sector allowing investors to capitalize on potential long-term capital gain and stable, inflation-linked rental yields.
Another alternative is REITs are tax-advantaged as dividends and trade-like stocks. And unlike bonds, which pay a fixed amount of interest and have a set maturity date, REITs are productive assets that can increase in value indefinitely. Many REITs have dividend yields between 5% and 10%. Be careful though – many REITs are not liquid if you need access to your money in the short term.
Alternatives to bonds do offer higher yield potential. But remember – that comes with risk. Differentiate between safe and risky assets, and structure your portfolio in a way that makes the most sense for you.