How bonds could play a key role in a balanced investment portfolio

A bridge crosses over a waterway

What do investors need to know about bonds now? A Wells Fargo Investment Institute strategist shares top considerations.

Bonds have traditionally provided a stable, more secure investing alternative to equities, though typically at a lower return. And though bond yields have been low in recent years, they can still play an important role in maintaining a balanced investment portfolio, says Brian Rehling, head of global fixed-income strategy for Wells Fargo Investment Institute. And as you get closer to retirement, bonds could also offer a reliable stream of income, he says, that’s typically lower risk.

Based on the Wells Fargo Investment Institute report, “The new landscape,” Rehling shares his perspective regarding investing in bonds.

Consider strategies to help increase your yield

In response to the sudden drop in the stock market after the pandemic became a national emergency in the U.S. in March of 2020, the Federal Reserve slashed short-term interest rates. But because the Fed doesn’t have as much control over long-term rates, we’re seeing them rise and yield curves steepen, Rehling says. For investors, this can mean more risk when it comes to the market value of a longer maturity bond.

As a result, Rehling says investors could consider bonds with intermediate maturities and look at ways to increase yield — such as investments in high-yield corporate bonds or preferred securities. Shorter maturity products like mortgage-backed securities or bank loans may also help generate income.

However, Rehling believes the current situation is temporary — and one that bond investors will want to keep an eye on. “After we get through reopening and the system gets its fiscal and monetary stimulus, I think in the intermediate and long term, we’ll go back to relatively low long-term rates and a low-inflation environment,” he explains.

Bonds can help offset volatility

Bonds could be a welcome addition to most investment portfolios because they can provide stability to counter the potential risks associated with investing in equities and other more volatile assets, Rehling says.

“For the most part, if you hold bonds to maturity, and you buy a quality issuer you should get your money back and you know exactly what you’re likely to get and when,” says Rehling. “That’s not true on the equity side.”

With bonds, you’ll typically receive interest payments a couple times per year. That’s fixed income you may count on, whereas you may not know what your returns could be with more volatile investments.

Generally, a healthy portfolio is a diverse portfolio. Even more aggressive investors can benefit from some diversification into bonds so that an entire portfolio isn’t concentrated in riskier positions.

Review various income-generating strategies

Rehling suggests exploring investment strategies for bonds that can help generate income, including a “bond ladder.” The ladder is a portfolio of fixed-income securities with each one having a different maturity date. This approach lets you plan or adjust your cash flow based on expected yields and your financial situation at any given time. It’s a strategy designed to provide income while helping minimize exposure to changes in the interest rate.

“The bond ladder can be an effective strategy for retirees because they should receive cash flows each year to cover expenses without having to worry too much about changes in interest rates,” Rehling says.

Revisit your plan regularly

No matter your goals, it’s a good idea to evaluate your bond strategy with a financial advisor. It can be part of a regular checkup of your investment portfolio, which can help make sure your allocations align with your investment plan. This also provides the chance to review your risk tolerance with your advisor to see if anything has changed — and if your allocations need to adjust as a result.

“It’s a chance to discuss how the bond allocation is performing in your portfolio and make sure you’re well-diversified within that allocation,” Rehling says.

Disclosure:

Wells Fargo Investment Institute, Inc., is a registered investment adviser and wholly owned subsidiary of Wells Fargo Bank, N.A., a bank affiliate of Wells Fargo & Company.

The information in this report was provided by WFII. Opinions represent WFII’s opinion as of the date of this report and are for general information purposes only and are not intended to predict or guarantee the future performance of any individual security, market sector or the markets generally. WFII does not undertake to advise you of any change in its opinions or the information contained in this report. Wells Fargo & Company affiliates may issue reports or have opinions that are inconsistent with, and reach different conclusions from, this report.

The information contained herein constitutes general information and is not directed to, designed for, or individually tailored to, any particular investor or potential investor. This report is not intended to be a client-specific suitability or best interest analysis or recommendation, an offer to participate in any investment, or a recommendation to buy, hold or sell securities. Do not use this report as the sole basis for investment decisions. Do not select an asset class or investment product based on performance alone. Consider all relevant information, including your existing portfolio, investment objectives, risk tolerance, liquidity needs and investment time horizon. The material contained herein has been prepared from sources and data we believe to be reliable but we make no guarantee to its accuracy or completeness.

Investments in fixed-income securities are subject to market, interest rate, credit, and other risks. Bond prices fluctuate inversely to changes in interest rates. Therefore, a general rise in interest rates can cause a bond’s price to fall. Credit risk is the risk that an issuer will default on payments of interest and/or principal. This risk is heightened in lower rated bonds. If sold prior to maturity, fixed income securities are subject to market risk. All fixed income investments may be worth less than their original cost upon redemption or maturity.

Bond laddering does not assure a profit or protect against loss in a declining market.