The markets are starting to price in higher interest rates than the Fed is predicting. That’s significant as bond prices move inversely with interest rates. Investors buy bonds for two primary reasons, either for income or to reduce portfolio risk. For income investors, higher rates aren’t such a bad thing; you could possibly take less risk and get the same return. On a side note, I don’t think investing for income is the most effective strategy for many people, but that’s for a later note. For investors looking to reduce portfolio risk, higher interest rates are a disaster. Instead of being a risk reducer, bonds can end up adding risk. There are two options:

  1. Rethink what you use to reduce risk—you could use Gold (but probably not a great idea), puts, or volatility. For more details, check my recent work on this topic.
  2. Rethink how you structure a bond portfolio—there are ways to structure a bond portfolio to balance duration (interest rate risk) with potential returns.

Markets

Last week was shortened by a holiday and impacted by quarter-end rejiggering and the Archegos blowup, so it’s difficult to really read into anything that happened. As we open up this week the market is dealing with a strong jobs number, a potential infrastructure plan, and some blowout numbers from Tesla. It doesn’t look like there are any other shoes to drop from Archegos and pre-market, it looks like the same story—stocks up with value outperforming, Treasuries getting crushed.


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