Content provided by Marc Pfeffer, CLS Senior Portfolio Manager
On March 19, Janet Yellen gave her first press conference as head of the Federal Reserve. What ensued was an awkward speech conveying to the markets that short-term interest rates may actually go up sooner than the markets had anticipated. Stating that rates could go up approximately six month after the tapering ends (most likely in October), moves forward, by a whopping quarter what almost everyone is anticipating anyhow. In response to the comments, stocks declined and market interest rates moved higher.
When interest rates rise, prices of fixed income securities, such as individual bonds, those held in ETF’s, and within funds, will typically fall. As we have stated in many commentaries, significantly reducing your portfolio’s allocation to bonds may be misguided and ignores the diversification benefit of the asset class. Instead, as we have done and have suggested, investors should consider products and strategies that can mitigate some of the risks of higher rates:
1) Reducing duration
2) Maximize reinvestment income
3) Diversify sources of yield
The bottom line is that rates are eventually going to move higher. There are ways to protect yourself, but make sure to keep expectations reasonable.
Fixed inco.me securities are designed to return income on a periodic basis. Generally, fixed income refers to investments in bonds, real estate, loans, and other types of debt instruments. Diversifiable risks associated with fixed income investing include, but are not limited to, opportunity risk, credit risk, reinvestment risk, and call risk.