- Fixed-income market volatility has surged.
- In times like these, low-turnover laddered bond portfolios may provide stability.
- Laddered bonds may be attractive to investors who wish to adjust their cash flows based on their financial situations.
Market volatility has surged in recent weeks, and fixed-income markets have taken it on the chin. Although they may be as bruised and battered as if they had gone ten rounds against a heavyweight fighter, bond markets have remained resilient.
Then the Federal Reserve (Fed) entered the ring, supporting markets with counterpunches of its own. The monetary-policy support process began on March 3, 2020, when the central bank lowered the federal funds rate to a range of 1.00% to 1.25%. Multiple interventions followed, including another reduction of the fed funds rate to 0% and unlimited purchases of Treasury and mortgage securities. In addition, the Fed created multiple programs to help stabilize fixed-income markets.
Congress followed these measures by introducing a $2.2 trillion dollar fiscal stimulus package to help fight the coronavirus-induced economic slowdown.
What Does This Mean for Laddered Bond Strategies?
Investors desperate to raise cash have sold fixed-income investments at such a rapid clip that prices have fallen well below what we believe are reasonable.
With markets in disarray, investors will likely not get a good deal if they sell out of their bonds now. In our view, investors would be better served by staying the course, remaining disciplined and focusing on their long-term goals.
Global financial markets are expected to remain on edge. Laddered bond strategies — or portfolios of individual fixed-income securities with different maturity dates — generally use government bonds, corporate bonds or municipal bonds in an attempt to provide consistent income within a strategy built to weather different economic and interest-rate environments.
In times like these, we like to remind investors of the potential stability that low-turnover laddered bond portfolios offer. They are designed to offset interest-rate risk while simultaneously seeking a steady stream of predictable income. When yields rise, investors can capture them through reinvestment, which translates to additional income. If rates slump, the investor may lock in yields, which may offset a decline.
Investors may build a laddered bond portfolio using a variety of fixed-income securities, each with a different trade-off. For example, a portfolio consisting of U.S. government securities is backed by the full faith and credit of the U.S. government; the trade-off for this guarantee is a lower yield. In general, government bond yields are lower than those of corporate bonds, which have higher risk of default. Municipal strategies introduce credit risk as well, although in a slightly different way. Investors must understand the risk/reward potential of any strategy. It is important not to generalize the risks, as all strategies are not created equal.
We use investment-grade (higher-quality) fixed-income securities in our portfolios, and adhere to tight controls that focus on both the corporate and municipal markets.
A team of experienced portfolio managers and analysts vet our holdings, seeking bond issuers that offer solid balance sheets and cash flows. We don’t sacrifice quality in a reach for yield. In our view, giving up a few basis points in yield in exchange for more consistent income and a higher probability of repayment is a perfectly acceptable compromise.
We continue to believe that laddered bonds are an important piece of the planning puzzle for income-seeking investors.
This material represents an assessment of the market environment at a specific point in time and is not intended to be a forecast of future events, or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice and is intended for educational purposes only.
There are risks involved with investing, including loss of principal. Diversification may not protect against market risk. Bonds will decrease in value as interest rates rise.
Information provided by SEI Investments Management Corporation, a wholly owned subsidiary of SEI Investments Company. SEI Fixed Income Portfolio Management is a team within SIMC.