Bond-fund selling is a question that is different for every investor, the reason being is every bond-fund performs different and every investor has their own investment goals. So what is the right answer; it depends on the portfolio and the investors goals. To make more sense of this question, we need to understand why bond-fund investors sell off bond-funds.
Why sell off bond-fund
- Interest rates are likely to increase. When interest rates increase, the value of existing bonds decline. This is because investors will be able to get a better interest rate purchasing a new bond. So if you bought into a bond-fund recently looking into an alternative fixed-income fund maybe a smart move for your portfolio.
Think of the sharp end of the pencil as interest rates and the eraser end as bond prices. If you increase either one, the other drops. When interest rates rise, bond prices drop. When interest rates fall, bond prices rise.
- Inflation increases. The real rate of return on a bond is the difference between the interest it pays and inflation. If inflation increases, bonds will become less attractive since their interest rates do not account for inflation. Inflation also increases the demand for labor, and therefore reduces unemployment. This allows consumers to buy more goods and drives returns earned on alternative fixed-income fund
- Bonds are more likely to default. When a lender is at risk of defaulting on a bond, the demand for that bond goes down significantly. The price of bonds is fixed by supply and demand just like any other asset. You can follow Standard & Poor’s (the S&P) regarding changes in the credit rating of various bonds and news on whether or not a bond is expected to default. CORI LLC’s alternative fixed-income fund investors are secured by real estate a fixed asset; bought 70% below current market price. Making default’s worst case scenario you get your money back by selling the real estate off.
- Institutional and foreign demand for bonds is declining. Most bonds are sold to large institutions and foreign governments. When these organizations have less interest in purchasing bonds due to declining yields or higher perceived risk, the value of those bonds can decrease dramatically.
The U.S. economy is likely to continue its recovery next year, with growth of 2.5 to 3 percent, says Nick Colas, chief market strategist of Convergex brokerage in New York City. Meanwhile, the European economy is still quite weak, he notes. And while small-cap companies typically earn most of their revenue domestically, larger companies generate 20 to 30 percent of their revenues from European countries, Colas says. “That’s a tough hole to fill in 2015. It looks like there will be a triple-dip recession in Germany,” he says. In addition, the Russell 2000 small-cap stock index has underperformed the S&P 500 this year, he points out. While the S&P 500 has returned 12.4 percent, the Russell 2000 has returned only 2 percent. For all of these reasons,
In addition, interest rates are expected to rise in the near future. (The Federal Reserve decided not to raise interest rates in June 2015, but comments Wednesday 6/17/2015 suggests the long awaited rate hike could come in September according to CNN Money .) When that happens, bond prices will almost certainly decline. If you are holding bonds for their interest, and you recently have bought them, it seems likely that your interest rate being earned is quite low. What will happen when rates go up? You will still be earning a low rate and losing money. In that case, it seems prudent to sell some portion of your bond-fund — perhaps even all of them, if they are ultra-safe and ultra-low-interest-earning, get into cash, and start looking for a future opportunity to buy a bond alternative. Selling now will most likely give you the biggest capital return on the sale; remember, the prices will drop when rates go up. However, if you have bonds from a while ago, when rates were significantly higher, you are earning good interest from them. It wouldn’t make much sense to sell them now, UNLESS you anticipate a need for cash in the near future (or, at least, before you think rates will rise significantly, hurting your bonds’ sale value).
In general, rates for traditional fixed-income investments have been horrible and aren’t getting any better. But there is light at the end of the tunnel. You just have to look in a different tunnel. Achieving a higher rate of return on fixed income is always possible, but you must be more flexible than in the past. The traditional fixed-income investments like CDs, money market fund, and bond-fund investments are not the place to look for yield. The real place to find higher income is in the “alternative fixed-income” space—lesser known investments that don’t follow the mainstream rules of fixed income, and don’t have all of the same qualities. Non-Public Real Estate Investment Trusts (REITs). These are not the traditional REITs that trade on an exchange. Public REITs are too volatile. Private REITs typically perform steadily and are currently providing mid to high single-digit dividends. Again, do your homework. Consultant with your professional financial planner, attorney, or CPA before you sell your bond-fund.