Most of the time, we like to think that more is more. More friends, more vacations to beautiful places, more time in the day. In situations like these, it’s usually better to have more than less.
But sometimes, less is more. In stock investing, a short-term trade can make you money. In the bond world, shorter-term bonds can mean less risk. And these days, with interest rates likely to rise, reducing risk in your bond portfolio may be more important than ever.
Short term bonds can fare better in higher interest rate environments. Why? In general, when interest rates go up across the curve, bond prices go down. But here’s the key—short term bond prices go down less.
Think of it this way. If you own a long term bond, and interest rates rise, if you sell that bond before maturity, you’ll get less than what you paid for it. If you own a short term bond and interest rates rise, the price will not be affected as drastically as with a long term bond because interest rates are less likely to fluctuate drastically in the short term. My colleague Matt Tucker explains this further in a Blog post on duration.
With interest rates on the rise, investors need to consider the impact on their bond portfolio. Bond portfolios that have lots of long-term bonds may be at risk of serious losses. And investors sitting on cash may feel like they have nowhere to go, stuck between getting back into a nasty bond market or a volatile stock market.
So what’s an investor to do?