The Role of Fixed-Income Investments and Portfolio Allocation
With the prospects of rising interest rates, investors may be re-thinking the role and purpose of fixed-income (bonds) investments within their investment portfolio.
If you are considering reducing or eliminating fixed-income investments from your investment portfolio, prior to doing so, it is important to consider the reasons and importance fixed-income investments provide for proper portfolio allocation.
Diversification: The future is uncertain, more so now than in recent history. While there may be strong evidence of what lies ahead, unforeseeable events can often alter reality. Taking too large a bet on any one particular outcome can negatively impact your long-term results, reducing your ability to achieve long-term goals. Investment decisions based on concentrated allocations are usually higher risk.
Reduced Volatility: One of the primary purposes to own fixed-income investments, even if rates continue to rise, is the lower long-term volatility these investments typically offer when compared to common stocks. Bonds, when used properly as part of a diversified investment strategy, may help level your portfolio’s overall performance over the long-term.
Liquidity: Most bonds have a maturity date at which the principal is returned to the investor if the issuer has not defaulted or called the bond. If you are able to anticipate future cash needs, purchasing high quality fixed income investments, with maturities at or near these future dates, can provide an effective strategy of remaining invested in fixed-income allocations, while offering confidence the funds will be available when you need them.
Income: Income and cash flow are important to investors. If you hold your bond to maturity and the issuer does not default or redeem the bond, you will receive your expected cash flow (interest and principal), regardless of whether interest rates rise or fall. This too offers the confidence on maintaining a proper allocation to fixed-income investments.
Given the above reasons, investors need to avoid ‘rushing to judgement’ on the decreased value of remaining invested in fixed-income investments. Allocation goals, with an eye on long-term results, must remain forefront. Investors will benefit by properly assessing the investment climate and understanding the purpose fixed-income investments offer before reducing or eliminating these investments from their investment portfolio.
Source: Wells Fargo Investments, Global Investment Strategy