Are bonds expected to rise?
"Bonds are back," Vanguard said in an outlook report published earlier this month. The world's second largest asset manager expects U.S. bonds to return 4.8%-5.8% over the next decade, compared with the 1.5%–2.5% it expected before the rate-hiking cycle began last year.
We expect bond yields to decline in line with falling inflation and slower economic growth, but uncertainty about the Federal Reserve's policy moves will likely be a source of volatility. Nonetheless, we are optimistic that fixed income will deliver positive returns in 2024.
Vanguard's active fixed income team believes emerging markets (EM) bonds could outperform much of the rest of the fixed income market in 2024 because of the likelihood of declining global interest rates, the current yield premium over U.S. investment-grade bonds, and a longer duration profile than U.S. high yield.
Waiting for the Fed to cut rates before considering longer term bonds isn't our preferred approach. The bond market is forward-looking and long-term Treasury yields typically decline once investors believe that rate cuts are coming.
Starting yields, potential rate cuts and a return to contrasting performance for stocks and bonds could mean an attractive environment for fixed income in 2024.
In line with the outlook from other investment providers, the firm is forecasting a 5.7% gain in 2024 for U.S. investment-grade bonds, versus 4.9% last year and 2.3% in 2022.
Why rising interest rates pushed bond prices down, too. Bond interest rates are usually set upon purchasing a bond. When rates rise, new bonds with higher rates are issued and become more desirable than bonds with lower rates. As a result, the value of the bonds people already own with lower rates will fall.
Long-term bonds have an average maturity of 10 years or longer, making them a better choice when interest rates are falling, as they're expected to do in 2024.
Unless you are set on holding your bonds until maturity despite the upcoming availability of more lucrative options, a looming interest rate hike should be a clear sell signal.
CDs are an excellent place to park your cash and earn interest on your balance. Although there's a risk of inflation outpacing CD interest rates, they are virtually guaranteed earnings. Bonds, on the other hand, may deliver higher returns and regular income via interest payments.
Should I not invest in bonds?
Although bonds may not necessarily provide the biggest returns, they are considered a reliable investment tool. That's because they are known to provide regular income. But they are also considered to be a stable and sound way to invest your money.
And we believe bonds will continue to play a valuable role in offsetting stock losses over the long term. "Diversification benefits are back," said Sara Devereux, global head of Vanguard Fixed Income Group. "2022 was a highly unusual year. Over the long term, bonds continue to be a great diversifier to equity stress."
If interest rates rise the bond will lose value on the open market. But as the bond approaches maturity the market value of the bond will rise. On the day the bond reaches maturity it will be redeemed for face value. So in that sense you can not lose money.
Bottom Line
Moving 401(k) assets into bonds could make sense if you're closer to retirement age or you're generally a more conservative investor overall. However, doing so could potentially cost you growth in your portfolio over time.
Moore expects that prices of high-quality corporate bonds will recover strongly once the economy and inflation slow, and the Fed begins cutting rates to stimulate growth.
They serve different roles, and many investors could benefit from a mix of both in their portfolios. Diversification is an important technique for managing investment risks — and a portfolio containing a mix of stocks and bonds is more diversified and potentially safer than an all-stock portfolio.
The National Association of Realtors expects mortgage rates will average 6.8% in the first quarter of 2024, dropping to 6.6% in the second quarter, according to its latest Quarterly U.S. Economic Forecast. The trade association predicts that rates will continue to fall to 6.1% by the end of the year.
The bond market is a wide field, with many different categories of assets. In general, you can expect a return of between 4% and 5% if you invest in this market, but it will range based on what you purchase and how long you hold those assets.
This means that when interest rates go up, bond prices go down and when interest rates go down, bond prices go up. Alternatively, if prevailing interest rates are increasing, older bonds become less valuable because their coupon payments are now lower than those of new bonds being offered in the market.
Should I only buy bonds when interest rates are high? There are advantages to purchasing bonds after interest rates have risen. Along with generating a larger income stream, such bonds may be subject to less interest rate risk, as there may be a reduced chance of rates moving significantly higher from current levels.
Will bonds bounce back?
The bond market will bounce back from this year's historic rout to have a stellar 2024, Goldman Sachs Asset Management strategist says.
A rise in either interest rates or the inflation rate will tend to cause bond prices to drop. Inflation and interest rates behave similarly to bond yields, moving in the opposite direction from bond prices.
