Short-term interest rates have been at historic lows for more than four years, due in large part to Federal Reserve policies intended to stimulate the economy.1 The Fed’s actions have also suppressed longer-term rates, leading to low yields on new-issue bonds of varying maturities (see chart).
Despite low rates, you might keep a portion of your assets in bonds or other fixed-income securities in order to balance more aggressive investments. And as you near retirement or progress through your retirement years, you may want to increase your bond holdings. This raises the question of how to keep an appropriate mix of bonds in your portfolio without tying up too much of your principal at low rates. Although no one can predict the future, rates are likely to rise over time, and some experts believe that when this happens the increase could be fairly rapid.²
Preparing for Change
One way to address fluctuating rates is to stagger the maturity dates of the bonds in your portfolio. This strategy, called a bond ladder, may help limit exposure to low interest rates while also increasing the likelihood that at least some principal may be available to reinvest when rates are rising.
You could create a ladder over a period of time by purchasing bonds of the same maturity every year or two. Alternatively, you could create a ladder during the same time period by purchasing new-issue bonds of different maturities or by purchasing bonds on the secondary market that are scheduled to mature in different years. For the latter strategy, you might purchase 10-year bonds scheduled to mature in 2016, 2018, 2020, and 2022.
Building a bond ladder is a form of diversification within the fixed-income portion of your portfolio, which in turn may be part of a broader asset allocation strategy. Of course, diversification and asset allocation do not guarantee against loss; they are methods used to help manage investment risk.
Building by Units
Although a bond ladder is often created by purchasing individual bonds, you could develop a similar and potentially more diversified strategy by purchasing unit investment trusts (UITs) with staggered termination dates. Bond-based UITs typically hold a varied portfolio of bonds with maturity dates that coincide with the trust termination date, at which point you could reinvest the proceeds as you wish. The UIT sponsor may offer investors the opportunity to roll over the proceeds to a new UIT, which typically incurs an additional sales charge.
The return and principal value of bonds and UITs fluctuate with changes in market conditions. Bonds redeemed prior to maturity and UIT units, when sold, may be worth more or less than their original cost. Investments seeking to achieve higher yields also involve a higher degree of risk. UITs may carry additional risks, including the potential for a downturn in the financial condition of the issuers of the underlying securities.
UITs are sold by prospectus. Please consider the investment objectives, risks, charges, and expenses carefully before investing. The prospectus, which contains this and other information about the investment company, can be obtained from your financial professional. Be sure to read the prospectus carefully before deciding whether to invest.
1) Federal Reserve, 2013
2) The Wall Street Journal, March 11, 2013
INVESTING RISK DISCLOSURE
Keep in mind that investing involves risk. The value of your investment will fluctuate over time and you may gain or lose money. Before investing, consider the funds’ investment objectives, risks, charges, and expenses. Contact Mahoney Asset Management for a prospectus or, if available, a summary prospectus containing this information. Read it carefully.
IMPORTANT CONSUMER INFORMATION
This web site has been prepared solely for informational purposes. It is not an offer to buy or sell any security; nor is it a solicitation of an offer to buy or sell any security.This site and the opinions and information therein are based on sources which we believe to be dependable, but we can not guarantee the accuracy of such information.
Representatives of a broker-dealer or investment adviser may only conduct business in a state if the representatives and the broker-dealer or investment adviser they represent: (a) satisfy the qualification requirements of, and are approved to do business by, the state; or (b) are excluded or exempted from the state’s licenser requirements.
An investor may obtain information concerning a broker-dealer, an investment advisor, or a representative of a broker-dealer or an investment advisor, including their licenser status and disciplinary history, by contacting the investor’s state securities law administrator.
SECURITIES: ARE NOT FDIC-INSURED/ARE NOT BANK-GUARANTEED/MAY LOSE VALUE
This information is intended for use only by residents of CA, CT, DC, FL,, MA, MD, MN, NC, NJ, NY, OH, PA, and VA. Securities-related services may not be provided to individuals residing in any state not listed above.
The financial calculator results shown represent analysis and estimates based on the assumptions you have provided, but they do not reflect all relevant elements of your personal situation. The actual effects of your financial decisions may vary significantly from these estimates–so these estimates should not be regarded as predictions, advice, or recommendations. Mahoney Asset Managment does not provide legal or tax advice. Be sure to consult with your own tax and legal advisors before taking any action that would have tax consequences.