Bumpy Waters Ahead for Bonds?


Bond investors need to be cautious in the current environment. Many bond investors are scared of the stock market but hungry for yields that are higher than those offered by presumably safe Treasuries and are loading up on investment grade corporate bonds. With the global sovereign debt troubles and the U.S.’s fiscal cliff approaching, these investments carry more risks than many perceive.

Corporations are flooding the market with their bonds as they take advantage of historic low interest rate. Investment grade corporate bond sales are expected to reach $1 trillion this year, and July posted the largest ever monthly sales figure of $75 billion. The average interest rate on those bonds is 3.2% versus the 30-year average of 7.2%. Some believe that U.S. interest rates will not rise significantly for years, given the need to stimulate the faltering economy, or that, if they do, the rise will be gradual, therefore manageable.

But “ravenous demand” has pushed corporate bond yields down too far to compensate investors for the risk (“As Corporate-Bond Yields Sink, Risks for Investors Rise,” Wall Street Journal) leading many experts to believe that when interest rates rise, bond prices will fall.

“The guy buying a [new] bond today is a guy buying a certain loss,” Anders Maxwell, a managing director at investment bank Peter J. Solomon Co., was quoted as saying, adding: “Rates have to go higher, and when they do these low-coupon bonds will drop precipitously in value.”

In addition, inflation-adjusted losses are to be expected even if interest rates do not rise, according to the article.

Page Perry is an Atlanta-based law firm with over 170 years of collective experience maintaining integrity in the investment markets and protecting investor rights.