Fixed income diversifies your portfolio. For decades, the synonym for fixed income in retirement was BONDS. Bonds have always been considered safe and secure. The more you had in bonds the more risk you could take with the balance of your investments. If your stocks were falling, you could always run to bonds. Today, running to bonds is no longer a safe refuge. In fact, bond investors have been losing money for more than five years and more losses could be on the way. Why? Let’s take a look.
Once upon a time–when bond interest rates were much higher than today–bonds protected your principal and paid a nice reliable return—in the range of five to nine percent. That return could be used for income in retirement to supplement social security and pensions. Today, those same bonds are paying in the range of two to three percent.
Because the principal was fixed and without market risk, the term “fixed income” became common. It may surprise you to know that for years, the bond market was twice as large as the stock market. Today, because of the mushrooming size of the stock market, the bond market is still massive, with approximately $40 trillion in U.S. bonds outstanding¹, versus about $30 trillion in total stock market capitalization. The bond market will always be huge, because governments and corporations issue bonds as a way of borrowing money. Currently, the size of the global bond market is approximately $100 trillion¹, and growing.
As an investor, you don’t need to know the exact statistics. What you need to know is that the interest rate on a bond, known as the coupon rate, helps to determine the bond’s selling price in the market. As a retired investor, you also need to know that we are at a historic point in financial history with regard to bonds. From 1980 until the summer of 2012, bond coupon rates relentless fell, giving bond mutual fund investors a shot in the arm. Thirty-two years of any induced “high” can affect almost anyone’s thinking.
I can’t say for sure, but it is likely that most bond fund investors could not really articulate why their bond funds kept going up in value for those 32 years, and why those same bond funds have been losing money steadily for the past six years. The reason is simple, and you’ve heard a hundred times, if not a thousand times: When interest rates rise, bond prices fall. When interest rates fall on new bonds (1980-2012), bond prices from already issued bonds, go up.
What we really are saying here is that we are at the beginning of a potentially long bear market in bonds. You need to ask yourself if that’s where you really want to put your safe money–into an asset that is mathematically in position to fall if the economy gets better and interest rates rise. The price of each bond in every mutual fund is calculated daily, with a forumula that relies on the coupon rate, credit rating, and maturity date. If you own bond funds made up mainly of bonds with two percent coupon rates, and new issues of those same bonds come out at 3 percent or 3.5%, you will see your fund’s value fall by the next day.
Here’s the problem: most investors don’t really buy individual bonds anymore to hold to maturity. They buy bond mutual funds, WITHOUT a maturity date and with NO principal protection. This defeats the entire PURPOSE of owning bonds.
What is truly needed for the modern day retiree’s portfolio is a suitable replacement for the function that bonds have always played in the retirements of previous generations.
This generation of retirees is actually retiring into one of the worst financial environments in history to start living off a nest egg. Not only do most people NOT have pensions any more, interest rates on safe bonds are far too low to live on. And now, bond mutual funds are virtually a guaranteed loser as interest rates start rising. Ironically, the better the economy does, the worse your bond funds will do, because the Fed raises rates when they see signs of inflation.
So, that being said, where else are you going to go for safety and income? Looking at the broad landscape of financial instruments that can provide safety, security, preservation and rock solid income at a rate that you truly CAN retire on, where are you supposed to look. The outlook from traditional fixed sources, like bond funds, is grim.
This is WHY annuities have entered the discussion for so many thinking people who do their own analysis and are not swayed by illogical thinking, hyperbolic consumer advocates with no real knowledge, or their biased broker (who also lacks knowledge) telling them that somehow “annuities are bad.”
I personally reject over 98% of all annuities on the market, which apparently are the only ones these critics are looking at. The principal protected Next Generation retirement annuities I recommend for my clients offer unmatched stability of principal, uncapped growth strategies protected by a a floor (you can’t lose money to the market) and an optional income feature that provides a pension-like income for life that you can never outlive. And no Virginia, the insurance company DOES NOT keep your money when you die. You get that guarantee in writing.
If you think for yourself, and you want to learn how to preserve your nest egg while enjoying a permanent income of from five to nine percent for life depending on age and deferral period–while getting a share of the market’s upside, let’s begin a conversation.
Steve Jurich is an Accredited Investment Fiduciary and heads IQ Wealth Management in Scottsdale, Arizona, a registered investment advisor with asset custodians Fidelity Institutional and TD Ameritrade, members FINRA, SIPC. He is the host of the popular radio show MASTERING MONEY, heard monday through friday from 8am to 9am on MONEY RADIO in Phoenix. Podcasts are available at www.MasteringMoneyRadio.com