Recognize that Canadian bond market news may be a sign of continued losses for bonds, and that you can protect your portfolio with other types of stocks

It’s true that bonds do tend to reduce your portfolio’s volatility, since they tend to rise when stock prices fall. That’s why many brokers sell bonds to their clients. Of course, bonds also generate more commission fees and income for the broker, compared to stocks, especially if you buy them via bond funds and other investment products.

Investors who follow Canadian bond market news and trends often consider the added stability from bonds. But while bonds may make your portfolio more stable in the short term, they are sure to increase your broker’s income, and reduce your long-term returns.

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Recognize that bond funds are not a better way to buy bonds

When bonds yielded 10%, perhaps it made some sense for successful investors to buy bond mutual funds and pay a yearly MER of, say, 2%. Now that bond yields are substantially lower, it makes a lot less sense.

The bond market is also highly efficient, and few managers can add enough value to offset their management fees. Additionally, investing in these funds exposes you to the risk that a manager will gamble in the bond market and lose money.

Inflation is another threat to bond funds. If the funds hold their bonds to maturity, they will get back the bonds’ full value—but inflation will have cut the purchasing power of the bond’s face value.

As a general rule, the safest bonds are issued by or guaranteed by the federal government. Next come provincial issues or bonds with provincial guarantees.

Corporate bonds can be far riskier than government bonds, although that risk varies widely. Some corporates are almost as safe as government bonds and offer only slightly higher yields. Some corporates are far riskier and offer far higher yields.

Canadian bond market news is not positive for investors

Bonds are on my short list of things to stay out of. They have always been at the mercy of inflation and interest rates. They also offer negligible income. Incidentally, it’s funny how investors worry about how long the stock market has been rising—since 2009!—when bond prices have generally been rising since 1980. (This is another way of saying that interest rates have been heading down since 1980.)

Bond-market trends do tend to last longer than trends in stocks. But that’s irrelevant in light of a far more crucial difference between the two. There’s no real limit to how high the stock market can go; in contrast, when interest rates hit zero, it puts a massive barrier in the way of any further rise in bond prices.

Actually, that barrier is less than absolute. Some bonds even have negative interest yields. But these bonds only appeal to a tiny sliver of bond-buyers: insurance companies, government agencies, and perhaps some hedge funds, options traders and other speculators. Nobody else is interested.

Negative interest rates may be a sign that central banks around the world are losing their grip on the world monetary system. If so, we may be at greater risk of sudden changes in things like inflation and interest rates.

As for diversifying, it’s of less use with bonds than with stocks. When interest rates or inflation rise, all bonds suffer, though damage varies. If interest rates rise enough to spark an economic downturn, it can drive junk-bond issuers into bankruptcy.

If you are reluctant to hold a 100%-stocks portfolio—and many people are—then one alternative to consider is to keep a portion of your investment funds in relatively short-term fixed-return investments, with maturity dates of a few months to no more than two to three years in the future.

These fixed-return investments will lose value when interest rates rise, but not enough to make a serious dent in their value. You can hold them till maturity, then get your money back and reinvest.

Canadian bond market news: Include bonds as just a small part of your portfolio, if at all, to make more money over time

All in all, we feel that bonds mainly ensure that you’ll earn a low return on your investment. We continue to recommend that you invest only a small part of your portfolio, if any, in bonds and fixed-income investments.

Instead, focus your investing on building a diversified portfolio of well-established companies with a long history of paying dividends. We recommend a number of these types of stocks in our newsletters.

We also recommend our three-part Successful Investor approach to investing because equities are bound to be more profitable than fixed-return investments over long periods:

1. Invest mainly in well-established, mostly dividend-paying companies;
2. Spread your money out across most if not all of the five main economic sectors (Manufacturing & Industry; Resources & Commodities; Consumer; Finance; and Utilities);
3. Downplay or avoid stocks in the broker/media limelight.

Why do you include bonds in your portfolio even if the ROI is limited?