Analyzing Bond Performance In Stock Corrections

Source: The New York Times

The table below shows the performance of bond categories during each -10% S&P 500 drawdown since 1987.

Sources and Disclosures

The charts below show the average performance figures. Since 1987, long-term U.S. government bonds have been the best performing category. But as the original table showed, yields cratered during most stock corrections over the past two decades.

Sources and Disclosures

The averages from 1987 to 1999 paint a different picture. Long-term bonds performed much worse. In fact, no bond category provided a meaningful portfolio offset against falling stocks.

Sources and Disclosures

It’s a good time for investors to revisit the bond funds they use after 2019’s rally. The next sections dive into how interest rate risk, correlations, and credit risk impact portfolio returns. It concludes with the main funds I use and a summary of what’s most important for bond investors.

Interest Rate Risk

Forty years of a single market environment tends to create bad investing habits. U.S. interest rates have steadily fallen since 1981. Investors have consistently benefited from using long-term bonds and taking interest rate risk.

Source: Greenline Partners

Bond performance since 1981 is anything but normal. Bonds provided zero inflation-adjusted returns from 1926 to 1981. The performance streak since 1981 has created two unrealistic expectations. One, that bonds earn high rates of return. Two, that if some duration risk is good then more is better.

Source: Leuthold Group

The graphs below create a simulated future where U.S. interest rates go higher and retrace their move since 1981. You can see two main takeaways for this hypothetical scenario in the bottom rows of the table.

First, if rates did a round-trip then returns for all types of bonds would be low. Second, short-term bonds with little duration risk would outperform long-term bonds.

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Disclaimer: MVMT Capital LLC (“Movement”) is a registered investment adviser located in Jackson, MS and is registered in the state of Mississippi. Movement may only transact business in ...

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