Recently, we heard from an investor who inquired about our Successful Investor Wealth Management service. She said she likes our approach to investing, but she admits to some concern about what she called our “all-equities philosophy.” Her broker says that all investors need to hold some bonds to reduce the volatility in their portfolios.

Our view on stocks and bonds is a reaction to the times

“Philosophy” is the wrong word for it. Our view on bonds and other fixed-return investments is a reaction to today’s economic and investment situation. Up till the mid-1990s, in fact, we routinely advised that fixed-return investments, such as bonds, should make up anywhere from one-third to two-thirds of a conservative investor’s portfolio.

Back then, fixed-return investments paid 8% to 10% a year. That was close to the long-term returns available from the stock market. Of course, fixed-return investments leave you fully vulnerable to inflation, unlike stocks.

But back in the 1990s, we saw little risk of inflation. In addition, we felt interest rates were likely to move sideways to downwards for an extended period, and that’s a favourable environment for bonds. (Note that bond prices and interest rates move inversely. When one goes up, the other goes down.)

Fixed-return investments do lack the tax advantages that are available in the stock market, of course. But that doesn’t matter if you hold your bonds in an RRSP or RRIF. In these and other tax-deferred accounts, stocks and bonds are treated the same for tax purposes.

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Next big move in bond prices is likely to be downward

A great deal has changed in stocks and bonds since the mid-1990s, of course. Bonds yield less than half of what they paid back then. More important, the outlook is for higher inflation and higher interest rates, due to governments around the world injecting more money into their economies. No one knows for sure what the future holds, but we think the next big, long-lasting move in bond prices will be downward. Many investment experts agree.

Even so, brokers continue to sell bonds to their clients. That’s partly because most of today’s brokers had not yet entered the investment business when the bull market in bonds began in 1980. All they know is that bonds do tend to reduce the volatility of your portfolio, since they tend to rise when stock prices fall. 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.

Our investment advice on stocks and bonds: 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, because of their short terms. You can hold them till maturity, then get your money back and reinvest. Our advice is to stay out of long-term bonds.

If you’d like me to personally apply my time-tested approach to your investments, you should consider becoming a client of my Successful Investor Wealth Management service. Click here to learn more.