EC Should Investors Be Cautious On Short Term Bonds?


Now let’s look a little deeper out on the yield curve and observe the 10 year treasury yields during this same time frame. The October rally in yields took the 10 year from 1.99% to as high as 2.36%, for an overall gain of 18.59%. The February rally took the yield from 1.63% to 1.98%, for an overall gain of 21.47%. And the 10 year yield is actually lower now than it was 16 months ago, whereas the yield on 2 year treasuries is almost double what it was 16 months ago.


Lastly we’ll look at the far end of the yield curve and observe the price action in the 30 year treasury bond yields. During the October 2015 rally in yields, the 30 year went from 2.82% to 3.12%, for an overall increase of 10.64%. And during the February 2016 rally, the yield went from 2.50% to 2.75%, for an overall increase of 10%. And like the 10 year, the 30 year is also lower than where it was 16 months ago.


So it’s ironic that after hearing so much about how rising rates would crush longer duration bonds, it’s actually the short term yields that have performed the best so far. Now I understand the reasons for this (negative yields, slow economic growth and low inflation expectations) but what I’m saying is that rather than investors overreacting to these predictions, it’s better to have an understanding about just what purpose bonds hold in their portfolio.

If your purpose for bonds is to hedge against a bear market, then there is no reason to abandon long and intermediate term treasury bonds. They’ve historically done a good job when investors need them the most. And if you hold a long term treasury bond index fund, then the rising rates will be somewhat offset by the higher future yield as the fund is able to acquire new bonds that pay higher rates of interest.

If your purpose for bonds is for performance, then you could be disappointed going forward. It’s going to be tough to generate the same type of returns investors have gotten used to over the last 30 years. Not that it wouldn’t be impossible, just unlikely. Historically the intermediate term bonds have done a pretty good job of providing the best risk adjusted returns.

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Alexa Graham 4 years ago Member's comment

You've proven your case well.

Michael Gouvalaris 4 years ago Author's comment

Thanks for reading Alexa, I appreciate that.