Why have bonds performed so poorly?
How bad is the sell-off? In 2022, the bond market suffered its worst year on record, as the Federal Reserve started raising interest rates aggressively to fight high inflation.
Many yield curve pairs using various maturities have been inverted since late 2022. This is due in large part to the Fed's rate hikes, which have the greatest direct impact on short-term bond yields. Source: U.S. Bank Asset Management Group, U.S. Department of the Treasury, as of April 10, 2024.
Interest rate changes are the primary culprit when bond exchange-traded funds (ETFs) lose value. As interest rates rise, the prices of existing bonds fall, which impacts the value of the ETFs holding these assets.
As for fixed income, we expect a strong bounce-back year to play out over the course of 2024. When bond yields are high, the income earned is often enough to offset most price fluctuations. In fact, for the 10-year Treasury to deliver a negative return in 2024, the yield would have to rise to 5.3 percent.
The implosion is largely a function of the U.S. Federal Reserve aggressively raising interest rates to fight inflation, which peaked in June at its highest rate since the early 1980s and arose from an amalgam of pandemic-era shocks. Inflation is, in short, "kryptonite" for bonds, McQuarrie said.
If interest rates go up, your bond fund will decrease in value. However, the higher interest rates will provide higher dividends. Eventually, the higher dividends make up for the initial loss of value.
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.
Short-term bond yields are high currently, but with the Federal Reserve poised to cut interest rates investors may want to consider longer-term bonds or bond funds. High-quality bond investments remain attractive.
Bond market strategists and fund managers generally agree that yields are still attractive, especially relative to inflation, and will likely stay higher than before the pandemic.
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.
Should you sell bonds when interest rates rise?
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.
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. (All figures are nominal.) Schwab's 10-year return expectations are well below each asset class' returns from 1970 through October 2023.
Dan Lefkovitz: 2022 was termed by some as the worst bond market ever. We had double-digit losses for core bond indexes, and some advisors and investors concluded that the best way to own bonds is to skip bond funds and purchase individual credits and hold them to maturity instead.
Even if the stock market crashes, you aren't likely to see your bond investments take large hits. However, businesses that have been hard hit by the crash may have a difficult time repaying their bonds.
When people think about investing for the long run, they often look to average market returns. For example, the broad U.S. stock market delivered a 10.0% average annual return over the past 30 years through the end of 2018, while the average annual return for bonds was 6.1%.
| Face Value | Purchase Amount | 30-Year Value (Purchased May 1990) |
|---|---|---|
| $50 Bond | $100 | $207.36 |
| $100 Bond | $200 | $414.72 |
| $500 Bond | $400 | $1,036.80 |
| $1,000 Bond | $800 | $2,073.60 |
After bonds are initially issued, their worth will fluctuate like a stock's would. If you're holding the bond to maturity, the fluctuations won't matterāyour interest payments and face value won't change.
However, CDs and Treasuries are fixed income investments and subject to similar risks as other fixed income investments. For example, if interest rates rise, the price of a CD or Treasury will fall and if you need the investment prior to maturity and have to sell it, you may lose money.
2024 Bond Outlook at a Glance
Right now, the market and the Fed have differing expectations, which is creating volatility around every major economic data release.ā In a recent report, Vanguard indicated that it expects U.S. bonds to return a nominal annualized 4.8% to 5.8% over the next decade.
How will bonds do in 2024?
Fixed income valuations, and a different inflation profile to the past few years, should make 2024 a good year for bonds. However, as with this year, it will not be all plain sailing. That's why a dynamic approach and strong country and company selection will be needed to deliver on the promise.
What are the disadvantages of bonds? Although bonds provide diversification, holding too much of your portfolio in this type of investment might be too conservative an approach. The trade-off you get with the stability of bonds is you will likely receive lower returns overall, historically, than stocks.
Key Takeaways
Bond rates are lower over time than the general return of the stock market. Individual stocks may outperform bonds by a significant margin, but they are also at a much higher risk of loss. Bonds will always be less volatile on average than stocks because more is known and certain about their income flow.
Why interest rates affect bonds. Bond prices have an inverse relationship with interest rates. This means that when interest rates go up, bond prices go down and when interest rates go down, bond prices go up.
Most bonds can be cashed in after one year, but you will lose three months' worth of interest if you cash them in before five years.
