Our Thoughts on the Bond Market

Maura Schauss |

Todd Youngdahl, CFP® at Washington Wealth Advisors

The market volatility in 2022 has certainly been one for the history books. Even investments like bonds, which are typically seen as “safe,” have experienced significant declines. Many investors are wondering if and when the bond market will recover, and whether they should continue to stay invested.

At Washington Wealth Advisors, we’re here to answer your questions and provide insight into the bond market. Here’s an overview of what’s happened so far in 2022 and what we believe is on the horizon for 2023.

Overall Bond Performance in 2022

Overall bond performance in 2022 has not been great, to say the least. In fact, it could go on record as one of the worst years in history in both the size of the losses (over 16% down) and the range (nearly all bond funds of every type have declined).

Just take a look at the chart below, which shows the year-to-date performance of several well-known bond funds as of September 13.

Bond performance has suffered for a number of reasons, but the biggest one is rising interest rates. This is because there is an inverse relationship between bond prices and interest rates. As interest rates rise, bond prices fall. Since newly issued bonds have higher rates of return than older bonds, the demand for older bonds is reduced and generally results in a loss if you sell.

The Federal Reserve raised interest rates 6 times in 2022, and has made it clear that they will continue raising rates until inflation is under control. These ongoing rate increases indicate that existing bond prices will continue to fall, at least for the short term.

While bond prices and interest rates move in opposite directions, bond yields and interest rates move together. That means that both existing bonds and newly issued bonds will provide a greater return as interest rates go up. But this only helps if your bond is newly acquired, either buying an existing bond at a discounted price or buying a newly issued bond with a higher coupon rate. Since most investors already have a portfolio of bonds bought at a higher price and a lower coupon rate, they are losing money in the current rising-rate environment.

Why Bonds Are Still Important

Despite the volatility, bonds are still a crucial component of a well-diversified investment plan for two reasons.  

First, newly acquired bonds could have higher yields and higher coupon rates than what we’ve seen in recent years.  

Second, not all bonds behave the same way in a rising-rate environment.

Bond Maturity and Behavior in Rising-Rate Market

Let's take a closer look at how various types of bonds behave in a rising-rate market.

  • Long-term bonds: These bonds typically take 12-30 years to mature and they are most affected by rising interest rates. As rates go up, demand for long-term bonds drops quickly.
  • Short-term bonds: These bonds take 1-5 years to mature. They aren’t nearly as sensitive to rising interest rates because they mature so quickly. In fact, sometimes rising rates create an increased demand for short-term bonds as investors shy away from long-term bonds, waiting for rates to rise.
  • Intermediate-term bonds: These fall between 5-12 years to mature. As could be expected, they are not quite as stable as short-term bonds, but much less volatile than long-term bonds.

Understanding the relationships between bond prices, bond yields, and interest rates is one of the best things you can do to invest wisely in a volatile bond market.

2023 Bond Outlook

The outlook for bonds is improving. In fact, for the first time in decades, bond yields are close to what you would expect from stocks. This means there is a potential to make more money in bonds in the upcoming year. But with this potential for higher reward also comes the potential for higher risk (as we’ve seen thus far in 2022).

We believe the current market environment presents an interesting opportunity to buy bonds at significantly discounted prices. Many investors have sold off their bonds out of fear of the Fed continuing to raise interest rates, but this isn’t reason enough to avoid an entire asset class. Despite the volatility, the outlook for bonds could be more optimistic in 2023. The yields and interest rates are up, while the prices are down, making greater exposure to bonds an attractive option for many portfolios.

How We Can Help

Do you have questions about your bond exposure heading into 2023? At Washington Wealth Advisors, we can help. We have the tools and expertise to assess your portfolio and make sure you are taking advantage of the opportunities available in the current market environment. For more information or to get started today, call our office at 703.584.2700 or email clientservices@washingtonwealthadv.com. You can also click here to schedule a meeting with us.

 

IMPORTANT WASHINGTON WEALTH ADVISORS DISCLOSURE INFORMATION

 

ABOUT WASHINGTON WEALTH ADVISORS

Washington Wealth Advisors is a fee-only registered investment advisory firm serving busy families, executives, women building wealth, and small business owners. We provide Wealth Advisory Services—financial planning coupled with asset management—guided by a personalized investment strategy based on each client’s unique goals. Our fiduciary approach, independent advice, and proactive investment management help to support our clients’ overall financial peace of mind.

 

Please note: Historical performance results for investment indices, benchmarks, and/or categories have been provided for general informational/comparison purposes only, and generally do not reflect the deduction of transaction and/or custodial charges, the deduction of an investment management fee, nor the impact of taxes, the incurrence of which would have the effect of decreasing historical performance results.  It should not be assumed that your Washington Wealth account holdings correspond directly to any comparative indices or categories. Please Also Note: (1) performance results do not reflect the impact of taxes; (2) comparative benchmarks/indices may be more or less volatile than your Washington Wealth Advisors accounts; and, (3) a description of each comparative benchmark/index is available upon request.