Interest rates drive bond returns

As the Federal Reserve continues to raise interest rates, you may need to adapt and consider repositioning your portfolio. Let’s take a look at why this may be necessary.

Even a small rise in rates can lead
to losses

Not all bonds are the same. Although core bonds play an important role in protecting your portfolio from equity market risk, they are heavily influenced by interest rate moves.

Even a small rise in rates can lead to losses

For illustrative purposes only.

Why does this matter? Traditional core bonds tend to have more duration than other fixed income sectors. As interest rates rise, the bonds lose value, and this is magnified if you have too much duration in your bond allocation.

For example, as seen in the above chart, if your traditional core bond exposure has a duration of 5 years and interest rates rise 1%, the value of these bonds could drop by as much as 5%.

The proof is in the performance

While traditional core bonds have lagged in performance during rising interest rate periods, non-traditional bonds, bank loans and high yield bonds have provided investors with stronger returns.

The chart below compares the performance of several different types of fixed income securities during the 30 years when interest rates rose at least 2%.

Chart: The proof is in the performance

Sources: BlackRock; Barclays; Bloomberg; Lipper. Rate spike time periods are 8/31/86-10/31/87, 9/30/93-11/30/94, 9/30/98-1/31/00, 5/31/03-6/30/07, respectively. Past performance does not guarantee future results. Interest Rates represented by the 10-year U.S. Treasury. All categories above represented by Morningstar Mutual Fund categories with the exception of Traditional Core Bonds which is represented by the BBG Barclays U.S. Aggregate Bond Index. The nontraditional bond, bank loan and inflation-protected bond Morningstar categories did not exist during certain rising rate periods, as noted by the blank return value. Index performance shown for illustrative purposes only. You cannot invest directly in an index.

As shown above…

During these rising rate periods, intermediate and long-term government bonds have not performed as well as other asset classes.

On the other hand, non-traditional bonds, bank loans, and high yield fixed income asset classes returned strong performance.

It’s time to take action

Having a flexible, well-diversified fixed income allocation can help you weather changing interest rate environments. Adding exposure to non-traditional bond strategies and other fixed income assets in tandem with your traditional core bonds can help you mitigate interest rate volatility.

Want to know more about how BlackRock can help you?

Start here

Points for professionals

  • Talk to your clients about the current interest rate environment and why it is important.
  • Point out that having exposures to non-traditional bond strategies and other fixed income asset classes in addition to their traditional core bond strategy can help them manage interest rate risk.
  • To learn more about how BlackRock can help you manage interest rate risk in your clients’ portfolios, contact your BlackRock representative, call 1-877-ASK-1BLK (275-1255) or email askblackrock@blackrock.com.

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