If interest rates rise, what happens to bond prices? How to prepare for a changing bond market:
The words ‘bear market’ have been bandied about a lot lately. When you read or hear them, remember to respond the same way you would if you saw an actual bear in the woods – by staying calm and keeping your wits about you. A changing bond market environment creates challenges for investors and financial advisors, but it also creates opportunities.
Bonds and a bear market
Many people believe bonds are risk free. That’s not the case. Bonds expose investors to several kinds of risk. These include:
Inflation risk, which is the possibility your savings may grow more slowly than inflation increases.1
Credit risk, which is the possibility the company issuing a bond will fail to make interest payments and/or repay principal in a timely way.2
Interest rate risk, which is the possibility the value of bond holdings will fall as interest rates rise.3
Interest rate risk is associated with a bear market in bonds. Barron’s explained it like this:4
“Unlike the stock market, where a 20 percent drop in prices is considered the marker of a bear market, there is no consensus about what constitutes a bear market in bonds…To distinguish between temporary spikes and actual bear markets, we think it’s reasonable to define a bear market in bonds as a sustained decline in prices (or rise in yields, which move inversely to prices) during a period of tighter monetary policy from the Federal Reserve.”
One reason the definition of a bear market in bonds is poorly specified is because bond rates have trended lower for about 36 years. Since September 1981, when 10-year Treasury bonds reached 15.8 percent, we’ve been in a bond bull market.
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