As you may be aware, interest rates – as measured by the ten year Treasury bond – have increased over the last month from approximately 1.6% to over 2.5% today. While rates are still relatively low, this is a swift and significant change. While predicting interest rates is somewhat akin to predicting the stock market, we do believe the longer term trend in interest rates will continue to be higher.
Of course this move is not unexpected. BSW has taken many steps over the last few years to defensively position your portfolio for this scenario. This is the primary reason that we have emphasized individual bonds, laddered portfolio structures, and shorter durations when possible since shorter duration bond prices do not react to changes in interest rates as much as longer duration bonds. At the same time, there are several implications to this rising interest rate environment that we want to briefly highlight:
- Bond prices and interest rates move in opposite directions. As such, it is likely you will see the principal value of your bonds decrease during the second quarter (April 1 – June 30). Further decreases are possible if rates continue to go higher.
- Importantly, this has no impact on the maturity value of your bonds or the yield-to-maturity that was locked in at the time of purchase.
- The bright side to this scenario (should it continue) is that maturing bonds will be able to be reinvested at higher interest rates and earn higher levels of income for your portfolio.
In the meantime, however, you should expect to see continued volatility in the reported value of your bond portfolio. Again, this does not indicate actual economic loss or any change in the ultimate maturity values of your bonds, as long as they are held to term.
Since this rate environment has not occurred for some time, it may feel uncertain to you. Please do not hesitate to contact us if you have any questions at all. As always, we are happy to help!
–Drew Simon, Senior Advisor