How an asset class such as bonds can play different roles in your portfolio depending on your investment philosophy.
In this episode you’ll learn:
- What are bonds and how can they be used in investment portfolios.
- What is interest rate anticipation.
- Why individuals have an advantage over institutions because they don’t have to worry about outperforming a benchmark when it comes to bonds.
- Why U.S. interest rates could rise and fall from current levels.
- Why China is unlikely to sell all of its U.S. Treasury bonds.
- Examples of higher yielding strategies other than bonds that can benefit from falling interest rates.
Show Notes
Balanced Asset Allocation: How to Profit in Any Economic Climate by Alex Shahidi
Investing At Level 3 by James B Cloonan
Episode Sponsors
Episode Summary
Why own bonds as part of our portfolios? In this episode, David explains the two driving philosophies for owning bonds and how your philosophy will influence the way you invest in them. Some use bonds as a means to generate income, while others use bonds to generate total returns. The role of bonds is also influenced by whether or not you are an individual investor or an investment manager or firm. Generating a high return will more likely be important to a manager or firm that is competing with others to generate the highest possible return for a client—while an individual investor may profit more from a bond investment focused on generating long-term income.
Generating a high return on bonds is not an assured outcome
David explains that while generating a high return on your bond investments might seem like the best-desired outcome—it isn’t guaranteed, which is why diversifying your portfolio with assets that perform best in different economic scenarios helps ensure that you are seeing profit despite the sole performance of your bonds. David shares that his personal investments in bonds this year underperformed. While he would have been upset if he was still in money management, he was able to relax as an individual investor because the role he has assigned his bonds is generating long-term income.
Deciding where to focus your bonds will help you know how to diversify your portfolio
Your bond strategy will help you determine how to best diversify the rest of your portfolio. There are other ways to invest in dividend-yielding assets, such as preferred stocks and equity real estate investment trusts. Real estate can also become a bond substitute. David explains that while there is no one right answer to how to diversify, you can make goals for your portfolio and make adjustments to your asset allocation as you compare your results with what you want accomplished through your investments. The goal should be to have assets that will return yield when interest rates go up because your bonds will inevitably go down at some point.
All assets have different roles within your portfolio. The key is to understand what philosophy—what role you want to subject your assets to, so that you can strategize most effectively. What role will bonds play in your portfolio, and are you investing in them in such a way that they fulfill that role?
Episode Chronology
- [0:20] Generating a return on bonds.
- [2:22] David explains why his own portfolio has not seen huge success in bonds.
- [3:56] What is the role of bonds in your portfolio?
- [6:41] A historical analysis of bonds.
- [9:55] The advantage of being an individual investor.
- [10:59] Speculating whether or not interest rates will go up or down.
- [14:50] The effects of the global economy on US bond behavior.
- [17:12] Strategies for diversifying your portfolio.
- [20:49] What to focus on as an individual investor in bonds.
- [22:19] Comparing the story of the carpenter and the tree to the life of a bond.
- [24:23] Deciding which path to choose for the use of your bonds.
Related Episodes
22: Will Interest Rates Ever Increase?
52: Why Are Interest Rates So Low, Even Negative In Some Places
82: What Assets Return When The Fed Raises Rates
122: Why Negative Interest Rates Are Dangerous
133: Interest Rates Are Rising. Four Things You Can Do
225: How To Invest In Bonds and Other Fixed Income Securities
260: Is This Why Interest Rates Are Falling and the Global Economy Slowing?
264: What Happens If U.S. Interest Rates Turn Negative?
Transcript
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