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A calmer investing path.

Fixed income can serve to dampen volatility in a portfolio, especially when equity markets show downside volatility. Investors can reasonably expect stocks and bonds to move in different directions, or at least not at the same rates. So far this year, both asset classes are showing gains, although stock returns have outpaced bonds. That’s typical in a year when both are in positive territory. “U.S. bonds did better than expected in 2019 as concerns over weak stock markets, a possible imminent recession and trade war worries led investors to bid up bonds, and lowered yields,” says Andrew Aran, partner at Regency Wealth Management in Ramsey, New Jersey.

Interest rates are a factor.

One factor in the price gain was a lack of rate increase. Investors who attempted market timing based on forecasts or hunches may have given up some return. “With no clear catalyst to push rates meaningfully higher, investors who held intermediate and long duration bonds in their portfolios were rewarded as prices climbed,” says Nicole Tanenbaum, partner and chief investment strategist at Chequers Financial Management in San Francisco. “Those who had been parking their fixed-income allocations in cash and short-term bonds in anticipation of future rate hikes that never materialized missed out on much of the year’s run-up.”

Forecasts can miss.

Pundit forecasts are not always accurate. That turned out to be the case this year, says Brandon Jones, research consultant at NEPC. Going into 2019, the Fed was anticipating several rate increases. “Instead, policy-makers lowered rates three times, which was a boon to fixed-income assets,” Jones says. “The Barclays U.S. Aggregate Index is up over 8% year to date, its highest annual return since 2002. It’s tax-exempt brethren, the Barclays Municipal Index, isn’t far behind and has been further buoyed by limited supply and unprecedented demand. Market participants increasingly seem resigned to the idea that interest rates will stay low, or even fall further, for the foreseeable future. Generally speaking for fixed-income assets this year, the longer duration, the stronger the performance.”

Treasury bonds get attention.

Continued strength in the U.S. economy boosted domestic bonds, says Lindsay Bernum, investor at Smith Capital Investors in Denver, who describes U.S. Treasurys as “the global risk-free asset.” “In times of global uncertainty, as we saw in 2019, both foreign and domestic money goes into Treasurys as the flight-to-quality move,” she says. “This was evident in August as the 30-year Treasury marked the lowest yield on record at 1.95%.” Domestic credit has benefited from foreign flows as “the U.S. was in a stronger position from a growth standpoint than other developed markets,” Bernum says. In addition, she says, “U.S. companies have been the beneficiary of low rates with the ability to refinance debt at attractive levels.”

Asset classes performed differently.

As with stocks, bonds can be categorized according to asset class. Long-term domestic corporate bonds were shining stars in 2019, with other categories, such as municipal bonds, emerging-market bonds and non-U.S. developed-market bonds showing lower levels of gains. Sylvia Yeh, co-head of municipal fixed income at Goldman Sachs Asset Management in New York, says numerous factors contributed to differences and similarities between domestic and overseas fixed-income markets. “Ultimately currency exchange rates may or may not make a trade work,” she says. “While global rates are largely low or negative, overseas investors may not effectively be able to invest in, and hedge, generally higher-yielding U.S.-based fixed-income assets due to complications in currency markets or smaller, nuanced markets.”

Risk on the horizon.

Past generations of investors often considered fixed income to be a “safe” asset class. It’s true that bonds don’t generally show the same volatile price swings as stocks, but that doesn’t mean they can’t be a drag on overall portfolio return. Despite bonds performing well in 2019, there’s still risk on the horizon, says Rob Isbitts founder and chief investment strategist at Sungarden Investment Research. “This puts bonds in an even more precarious long-term position than they were in at this time last year,” he says. “From here forward, the math is heavily against anything more than low positive returns. More likely, the coming half-decade will see bond returns in the red, as interest rates move higher from a low rate baseline.”

Investors are likely to shift.

Looking ahead to the time when the bull market in stocks inevitably wanes, investors are likely to shift assets into fixed income. “As investors fear a recession, money typically flows from stocks and into bonds. This drives bond yields lower and bond prices higher. Despite (or perhaps because of) the strong equity market performance in 2019, individual investors are bearish on equity markets,” says Robert R. Johnson, professor of finance at Creighton University in Omaha, Nebraska. Johnson cites data from the American Association of Individual Investors, indicating that bullish sentiment is below its historical average. That could lead to lower bond yields in the future, as investors pile into the perceived safety of fixed income.

The threat of higher yields.

However, a stronger-than-expected economy and equity market in 2020 could result in exactly the opposite situation: higher yields and lower prices. “The biggest risk bond investors face in this environment is if the economic outcomes turn out better than expected, pushing bond yields higher and prices lower,” says Greg McBride, chief financial analyst at “Particularly for multi-decade government bonds in Europe that are carrying near zero or negative yields, the price risk would be enormous. Investors that have gravitated into long-term bonds under the guise of safety could be in for a rude awakening if interest rates jump, as the prices of long-term bonds are more sensitive to interest rate changes that shorter-term bonds.”

Factors seen as bonds beat expectation:

  • Interest rates are a factor.
  • Forecasts can miss.
  • Treasury bonds get attention.
  • Asset classes performed differently.
  • Risk on the horizon.
  • Investors are likely to shift.
  • The threat of higher yields.