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The Other Market

It seems we have forgotten about bonds with the stock market in full boil. The bond market is almost twice the size of the stock market and it is about to post one of its worst years in a long time. Over the last decade, interest rates have dropped below the long-term average of 5% to 1.4% for the 10 year Treasury. Furthermore, short-term rates on money market funds and C.D.s are almost zero due to the Zero Interest Rate Policy of our Federal Reserve. Of course, when interest rates go down, the price of bonds goes up and the long trend of lower interest rates since 1981 made bonds a good investment. However, this trend has hit bottom.

Like holding a ball under water, interest rates are popping upwards. The interest rate on the 10 year Treasury has almost doubled off of the May low to the current 3%, and this is still below what many consider normal. Therefore, the price of bonds has now been declining due to rising interest rates. Their meager interest payments have not been enough to compensate for the damage. Leading bond funds are sporting total returns of 0 to minus 10%.

The dilemma is that bonds and money market funds are an important theoretical part of any proper portfolio. This is especially true for the investor concerned about what the extreme volatility of the stock market can do to one’s life savings.