Fixed Income Investing
Why Invest in Fixed Income
Fixed income securities (bonds) are a fundamental part of an investing plan for most investors. There are many types of bonds along with varied approaches to fixed income investing, each with their own advantages and levels of risk. Although stocks have historically outperformed bonds over the long term, there are a number of reasons to include fixed income investments in a diversified portfolio, including:
Income
Fixed income generally offers higher yields than equities or other securities as well as regular coupon payments, providing bond owners a potentially attractive, regular income stream.
Capital Preservation
Some investors may not want to take a significant amount of risk with their portfolios.
Bond prices, especially those of high-quality bonds, tend to be less volatile than other securities, typically offering investors a lower risk profile.
Diversification
Fixed income securities have historically demonstrated a low correlation to equities (see below), meaning there is little relationship between how the two asset classes have performed over a given time. Therefore, owning fixed income securities along with equities adds a potential risk-reducing effect to an investor’s portfolio.
Key Points:
Why Invest in Fixed Income?
Risks Involved in Fixed Income Investing
How to Invest in Fixed Income
The Benefits of Active Fixed Income Management
US Bonds
Municipal Bonds
Corporate
Bonds TIPS Large-Cap
US Stocks
Small-Cap US Stocks
International
Stocks Commodities
US Bonds 1.00 0.73 0.88 0.79 -0.10 -0.09 -0.03 0.02
Municipal
Bonds 1.00 0.70 0.61 -0.02 0.00 0.03 0.03
Corporate
Bonds 1.00 0.77 0.16 0.17 0.25 0.14
TIPS 1.00 0.00 0.00 0.10 0.27
Large-Cap
US Stocks 1.00 0.78 0.84 0.16
Small-Cap
US Stocks 1.00 0.75 0.22
International
Stocks 1.00 0.29
Commodities 1.00
Correlation Table (January 1998 - December 2008)
Source: Lipper; Bloomberg. Past correlations are no guarantee of future results. Correlation ranges from -1 to 1, with -1 indicating that the returns move perfectly opposite to one another, 0 indicating no relationship and 1
Spreading Market Exposure
High-quality bonds have historically performed well when other asset classes struggle. A low correlation to stocks generally makes bond owners less vulnerable to shocks in the equities markets. For instance, in the late 1990s, with the Internet and telecommunications bubbles at their peak, some investors questioned the need to invest in anything outside of equities. But when those bubbles burst shortly thereafter, fixed income securities held up much better than equities.
The chart below shows year-by-year performance of three hypothetical portfolios:
an all-equity portfolio, a balanced portfolio consisting of 60% equities and 40% fixed income and a third consisting solely of fixed income securities. The chart shows that, in three periods of stock market distress, a 100% bond portfolio held up far better than an all-stock portfolio, and the 60/40 blend also fared better than the all-stock portfolio.
Amid Stock Declines, Bonds Have Persevered
As of 12/31/08.
Source: Lipper. Past performance is no guarantee of future results. All returns assume reinvestment of all distributions. All-equity portfolio reflects the returns of a hypothetical investment in the S&P 500 Index, the balanced portfolio represents returns of a hypothetical investment in a portfolio made up of 60% of the S&P 500 Index and 40% of the Barclays Capital US Aggregate Index and the fixed income portfolio represents a hypothetical investment in the Barclays Capital US Aggregate Index. It is not possible to invest directly in an index.
100% Fixed Income 100% Equity
60% Equity / 40% Fixed Income -40
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