What to do with your bonds

Thursday 1 July 2004

With impending interest rate increases, won't bonds go down in price? Why should I own bonds at all?

By The Landlord

Based on standard asset allocation models, I figure my portfolio should consist of 60 percent stocks and 40 percent bonds. But with impending interest rate increases, won't bonds only go down in price? So why should I own bonds at all?

I totally understand your skepticism about owning bonds. In fact, I remember that many investors were also reluctant to own bonds back in the late 1990s, though the reason then was, Why own bonds when stocks were clearly generating much superior returns?

In both cases, I don't think the logic is completely sound. Reasons for bonds

For one thing, we don't really know what the future holds. Yes, given all the signals the economy is throwing off these days -- strong job growth, upticks in inflation -- I do believe that rates are likely to go up from here. But I'm not positive that there will be a big jump in rates, so I'm not going to make an all-or-nothing bet and completely forsake all bonds.

Besides, even if you and I are right, it's not totally clear what the effect would be. I would expect bonds to get hurt, but rising rates aren't exactly a tonic for stocks either. So should we avoid stocks too?

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