Bonds Returns vs S&P
10 hours ago
10 hours ago
Opposite Direction to the Stock Market
Sources: IEF, SPX
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Interest income + capital appreciation
Bonds have traditionally been the most popular asset for increasing the safety and decreasing the risk and volatility of an investor's portfolio. As investors get closer to retirement age, they will typically shift more and more of their assets away from stocks and into bonds to avoid the risk of losing a significant portion of their wealth right before or during retirement. Bonds offer a predictable stream of passive income in the form of interest payments which is also attractive to retirees on a fixed income. Investors with a longer time horizon may not need to invest in bonds because, while they may offer greater predictability, their relatively low returns can eat into a portfolio's growth rate.
Did you Know
Over the last 20 years, bonds have earned an average annual return of 4.83% while large-cap value stocks earned 6.82% and large-cap growth stocks earned 8.27%.
While bonds earn lower returns than many other assets, they're still often a better bet than holding cash in the face of inflation. Cash outperformed bonds in just four of the last 20 years: 2005, 2006, 2013 and 2018. That said, these years were largely anomalies—cash was the best-performing asset in 2018 because all other major assets, aside from bonds, earned negative returns. Bonds earned negative returns during just one of the last 20 years (2013).
Stocks and bonds have been negatively correlated for all of the 21st century. However, they were positively correlated in the 1950s, 1970s and 1990s, all periods of prolonged high inflation.
Modest passive income
Relatively safe and predictable
Can protect wealth from stock market volatility
Reasons to Invest
Relatively low returns can slow portfolio growth
Value can be diminished by inflation
Bond prices are sensitive to interest rate fluctuations
Performance During a Recession
Bonds usually perform well during a recession. Market volatility will push investors away from equities and into bonds, increasing demand for bonds and therefore their price. What's more, both inflation and interest rates tend to fall during a recession. Lower inflation helps bonds maintain their value, and low interest rates cause bond prices to rise. During the financial crisis of 2008, bonds were the best-performing asset. Bonds also performed extremely well during the dot-com bubble of 2000, returning a whopping 8.44% and 10.25% in 2001 and 2002, respectively, according to the Bloomberg Barclays US Aggregate Bond Index.
How You’re Taxed
Interest earned from bonds is generally taxed as income in the year the interest is received—although some bonds, such as municipal bonds, earn tax-exempt interest. If you sell a bond before it matures, you may owe taxes on any profits you earn. These profits will be taxed at the long-term capital gains rate of 0% to 20% (depending on your tax bracket) if the bond was held for longer than one year. If it was held for one year or less, profits will be taxed as income.