The Seesaw at the Park: Why Higher Bond Yields Can Be Good News for Your Portfolio
A few weekends ago, I took Jude and Marie to the park. Within five minutes they were fighting over the seesaw. Not over who got to ride it... but over who got to be on the high side.
Marie finally figured it out. "If I push down, you go up," she told her brother, like she'd just discovered gravity. Then she pushed off the ground, sent herself up, and Jude came down.
I stood there laughing, and then thought to myself that she had just explained the bond market better than most finance textbooks.
Hang on to that seesaw. We'll come back to it.
The Handoff Nobody Talks About
As people get closer to retirement or a large goal purchase, something natural happens. The goal shifts from growing money to preserving it and using it. So many of the people I work with start trimming their stock exposure and moving part of their portfolio into steadier ground as they get closer to retirement: bonds, Treasuries, CDs, money market funds, and very often bond ETFs.
That's smart. Nobody wants to be 64 and watch 90% of their nest egg whipsaw in a bad year right before they need it.
For a long stretch, though, that move felt like a punishment. Bonds were paying next to nothing. You'd "play it safe" and earn 2% or 3%, which barely kept pace with the price of groceries. Retirees were being asked to accept safety at the cost of income.
That's changed.
Finally Getting Paid to Wait
Today, bond investors are finally getting compensated. Depending on what you own and how long you lock it up, yields in the range of 4% and 5% are common for high-quality bonds and Treasuries, and some areas of the bond market are paying well north of 6%.
Let me put that in plain terms with a story.
Picture a couple, let's call them Mike and Linda. They're 62, planning to retire in the coming year, and they have $2 million saved. Most of it has been in stocks, and over the last decade stocks have been on a tear. Their account looks better than they ever imagined.
Meanwhile, as interest rates climbed over the past few years, bond prices fell. So, the stock side of the seesaw has been sitting way up high, while bonds have been sitting down low.
Here's the opportunity. Mike and Linda can sell some of their stocks after a great run, essentially locking in gains, and move that money into bonds while bonds are "on sale" compared to recent years and paying real income.
Say they move $800,000 into bonds and Treasuries yielding around 5%. That's roughly $40,000 a year in income. Ten years ago, that same $800,000 might have produced $16,000 or $20,000.
That extra money is the difference between "we can probably make it work" and "we're taking the grandkids to the beach this summer." It can cover a big chunk of living expenses, so they don't have to sell stocks during a rough patch in the market. That, in my opinion, is one of the most underrated benefits of all. Income you can count on buys you patience.
Back to the Seesaw
Now for the part that surprises people.
Bond prices and interest rates sit on opposite ends of the seesaw. When rates go up, existing bond prices go down. When rates go down, existing bond prices go up.
Why? Think about it this way. If Mike and Linda own a bond paying 5%, and a year from now new bonds are only paying 3%, their 5% bond suddenly looks pretty attractive. Other investors would pay more to own it. So, its price rises.
That means today's higher yields give investors two ways to win:
If rates stay where they are, they keep collecting solid income, year after year.
If rates fall, they keep collecting that income and the value of their bonds goes up. I call this a “bond pop”.
That's a pretty nice position to be in. It's like Marie realizing she can control which way the seesaw goes just by where she sits.
A Few Candid Caveats
I'd be doing you a disservice if I made this sound like a sure thing. It isn't.
If rates keep rising, bond prices can drop further, especially longer-term bonds, which move the most. Higher yields also sometimes mean higher risk. A bond paying 7% is usually paying that much for a reason, like a weaker company behind it. And bond ETFs don't mature the way an individual bond does, so their prices will move around more than some people expect.
That's why it matters how you build the fixed income and safer side of a retirement or investment portfolio: the mix of Treasuries versus corporate bonds, short-term versus long-term, individual bonds versus exchange traded funds. The details are where the plan actually lives and can be make or break.
The Bottom Line
For years, retirees were told to play it safe and accept next to nothing for doing so. That era is over, at least for now. If you're approaching retirement with a portfolio that's grown nicely thanks to the stock market or have a short-term goal in the next couple of years, this may be a good moment to take some chips off the table and put them to work somewhere that finally pays you to be patient.
Sometimes the smartest move is knowing which side of the seesaw to sit on.
If you're wondering whether your portfolio is positioned for this shift, let's talk. That's exactly what we're here for.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual or firm.
Bond values fluctuate with interest rates and credit conditions. The example above is hypothetical and for illustration only.
Rebalancing a portfolio may cause investors to incur tax liabilities and/or transaction costs and does not assure a profit or protect against a loss. Past performance is no guarantee of future results.
Securities and Advisory Services offered through LPL Financial, a Registered Investment Advisor. Member FINRA/SIPC.
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