Comprehensive investing Archives - Legacy Wealth Advisors

High inflation impacts all areas of life, from filling up at the pump to grabbing groceries from the store. Inflation is at 8.5% over the past 12 months, the highest level in over 40 years. While higher prices are an immediate sign of the times, inflation also impacts your purchasing power and investments.

Given the current economic situation, does it still make sense to invest in fixed-income vehicles like bonds? Many people use fixed-income securities to provide lower risk, but are they too conservative for the current market?

Let’s see.

What’s a Bond?

A bond is a debt security. When you purchase a bond, you give the company or government you bought it from a loan. In return, they commit to paying back the loan with interest—sounds a lot like an IOU. The institutions use the money to fund various projects.

Bonds are a type of fixed income because, in most cases, the issuer pays the investor a set interest rate over a predetermined period. However, this is not always the case, as some bonds offer variable rates. In that case, the interest rate you receive will vary.

Many people think about bonds as a “safer” investment than stocks for several strong reasons.

Their value doesn’t fluctuate as much as stocks.
Bonds offer guaranteed returns (subject to the financial health of the issuing company or institution).
Investing in them brings diversification to your portfolio

Why Is Inflation Impacting Bonds?

Fixed-income securities like bonds can play an essential role in an investor’s portfolio because they provide a reliable and stable income stream. That reliability, however, also makes them prone to losing their purchasing power with accelerating inflation.

Here’s an example:

Inflation is rising, but interest rates remain the same. If you have a five-year bond that pays out $100 in interest every month, the amount of money you receive doesn’t change. But the value of that $100 continues to decrease over time because of inflation.

The rate of interest typically remains the same on most bonds until they mature. The longer the bond takes to mature, the more future purchasing power you’re losing in a high-inflation environment.

Think of it this way: Bonds and interest rates have an inverse relationship: bond prices go down when interest rates go up, and vice versa.

Common Types of Bonds

Not all bonds are created equal. Some common types include U.S. Treasury bonds, savings bonds, I bonds, municipal bonds, and corporate bonds.

U.S. Treasury Bonds

U.S. Treasury bonds are backed by the federal government. They tend to be the safest types of bonds because they have the full faith and credit of the government behind them, but they often offer the lowest returns.

Savings Bonds & I Bonds

Many professionals are considering I bonds as a good tool for hedging inflation. I bonds are adjusted for inflation every six months and offer two types of payments: a fixed payment for 30 years and a variable payment adjusted for inflation.

I bonds have become increasingly popular with the current inflation acceleration. Over $11 billion in I bonds has been sold over the past six months, compared to around $1.2 billion in 2020 and 2021 over the same period.¹

Municipal Bonds

Municipal bonds, also known as “munis,” are issued by local government entities like the state, city, or county. The money raised by munis typically goes back into the community, like paving roads, building schools, or other projects that may benefit the public.

A significant benefit of municipal bonds is that they are typically exempt from federal income tax. Depending on your location, they may be exempt from state or local taxes as well.

Corporate Bonds

Just as you can buy stock in companies, you can also purchase corporate bonds. Unlike stocks, these bonds do not give you equity in the company. So the company’s profitability has no bearing on how much your bond earns in interest.

The upside? When the company’s performance is poor, and stock prices drop, your rates won’t be impacted.

The downside? When things are going well, and stock prices soar, you won’t benefit from the upswing.

Corporate bonds make up a significant portion of the bond market, but they tend to be the riskiest type of bonds. For example, if a company goes under, it may default on its bonds.

Can Bonds Bring Value to Your Portfolio in 2022?

Stocks and bonds tend to react differently to market conditions. In general, bonds can act as a buffer against volatility in stocks. They help create a diversified portfolio, which is imperative for long-term financial success.

Even amidst rising inflation, bonds can help mitigate risk, especially for those nearing retirement. They add stability to your portfolio and offer a regular stream of income.

3 Bond Strategies to Consider

Here are three bond strategies to consider as you consider incorporating bonds into your portfolio.

Buy Individual Bonds

You can build the fixed-income portion of your portfolio one piece at a time, buying each bond individually.

Invest in Bond Funds (ETFs)

Think of bond funds as the fixed-income version of stock mutual funds. Bond funds, or Bond ETFs, are a pooled investment vehicle that invests in various issuers, including U.S. Treasury bonds, corporate bonds, and munis.

Build a Bond Ladder

A bond ladder strategy consists of multiple bonds that mature at regularly spaced intervals. As one bond reaches maturity, the investments roll over. This strategy creates equally spaced maturities and can help investors with the goal to attain higher average yields.

Are Bonds Right For You?

With today’s high inflation and low-interest rates, many investors question whether bonds are still the right move to add more stability to their portfolios. The answer depends on your unique circumstances, including timeline toward retirement, tolerance for risk, long-term goals, and more.

At Legacy Wealth Advisors, we help clients develop tailored portfolio strategies to help weather the market volatility and hedge inflation. Feel free to reach out to our team to learn more about what we can do for you.

Sources:

1What Are I Bonds? Everything You Need to Know to Earn Nearly 10% Interest

Advisory services are offered through Legacy Wealth Advisors, LLC dba Legacy Wealth Advisors, an Investment Advisor in the State of Michigan. The information contained herein should in no way be construed or interpreted as a solicitation to sell or offer to sell advisory services to any residents of any State other than the State of Michigan or where otherwise legally permitted.

All content is for information purposes only. It is not intended to provide any tax or legal advice or provide the basis for any financial decisions. Nor is it intended to be a projection of current or future performance or indication or future results. Moreover, this material has been derived from sources believed to be reliable but is not guaranteed as to accuracy and completeness and does not purport to be a complete analysis of the materials discussed. Legacy Wealth Advisors does not offer tax planning or legal services but may provide references to tax services or legal providers. Legacy Wealth Advisors may also work with your attorney or independent tax or legal counsel. Please consult a qualified professional for assistance with these matters.

Investors are facing several concerns right now, and many have impacted the markets—geopolitical unrest, record-high inflation, supply chain issues, and the continuing complications with Covid-19 variants, ebbs, and flows.

When market volatility arises, it may go against your gut to stay invested. Why keep your money in something that’s losing?

But the truth is, the majority of investors can actually benefit from keeping their money in the markets during a downturn—at least when you analyze the history. According to Investopedia, since its inception in 1957 through 2021, the S&P 500 has returned an average of 10.5%!

Below we’ve identified a few reasons why we believe it’s essential to think long-term and how to manage your portfolio during market downturns responsibly.

The Importance of Long-Term Investing

Investing is about playing the long game. The more time your money spends invested, the more likely you will earn interest and grow your net worth.

Unfortunately, times of market volatility or downturn can make it challenging to stay focused on the long-term benefits. When you see your portfolio’s value take a nosedive, human nature takes over, and many investors’ immediate instinct is to pull out and stop the bleeding.

But even though downturns may hurt at the moment, the sting is only temporary because markets trend up over the long run.

Take the S&P 500 as an example. Since 2000, we’ve seen times of severe market volatility—the dot com bubble burst in 2001, the housing market crisis in 2008, and, most recently, the onset of Covid-19 in 2020.

From February 19, 2020, to March 23, 2020, the S&P 500 declined by about 34%. But, as hindsight has shown us, it bounced back almost as quickly as it dropped.

In fact, if you invested $100 in the S&P in 2000, it would be worth about $483 today. Markets drop in reaction to what’s happening globally, but the long-term data shows that the value continues to grow.

How to Manage Market Turbulence

Market turbulence can actually be a solid opportunity for investors. When the market goes down, prices drop, allowing savvy investors to buy shares “on-sale” and grow their portfolios.

Of course, for those looking to sell, the drop in prices isn’t ideal, and the first whisper of doubt (or downturn) may make investors nervous. At this moment, some investors decide to sell and walk away, even if that means taking a massive loss, not only in current gains and taxes but also in future growth.

Understanding Future Growth

Getting out of the market during a downturn may make you feel better, knowing the value of your portfolio won’t sink any lower. The problem is that you’ve now prevented your portfolio from taking advantage of potential future growth.

A market impact study by JPMorgan crystalizes this idea. Their team compared an initial $10,000 investment return over 20 years. Investors that stayed in the market the entire time saw a 6.06% return. But those who took money out of the market and missed its 10 best-performing days only saw a 2.44% return.

This research also highlighted that the market’s best days closely follow the worst ones, so pulling all of your money (or even some of it) out of the markets on its worst days could be missing out on its best just a day or so later.

How Long Market Downturns Tend To Last

Plus, bear markets are typically shorter than bull markets. On average, a bear market lasts a little over 9.5 months, whereas a bull market runs for over 2.5 years!

Remember, historically, market downturns end eventually. If you let your money ride it out, you’ll likely see prices start to rise again.

For those nearing retirement, we understand that you may not have time on your side to ride out a market downturn. If that’s the case, we recommend working with an advisor to address your immediate income needs and discuss your options.

Understanding Your Biases

There are few things more personal than your money. After working hard to build a nest egg over the last several decades, it can be tough to watch the numbers sink during a market downturn. Times of turbulence can be scary, and they leave investors wondering if they should pull out quickly or try to weather the storm.

The problem is, it’s nearly impossible to make unbiased decisions regarding your own money. Whether you realize it or not, your judgment can be skewed by what you’re reading online, hearing from friends or family, and watching on the news. Instead of focusing on long-term growth, these influences may have you shaken up over short-term downturns.

The good news is that working with an advisor can be an effective way to remove emotion from the decision-making process. An advisor acts as your sounding board to help you better understand your biases. Knowing what triggers you or why you feel a certain way about your money is an essential first step in overcoming them.

A financial advisor can help you drown out the noise while putting the focus back on your long-term plan. During times of market volatility, they will work with you to minimize risk in your portfolio and take advantage of opportunities during market dips.

At Legacy Wealth Advisors, we don’t make decisions based on gut feelings or trending news. We take an evidence-based approach to managing your investments, meaning our choices are based on data, historical precedent, and expertise. Our software also provides real-time projections, which can give a more accurate assessment of your portfolio’s long-term value and how it translates to income in retirement.

Investing with Legacy Wealth Advisors

When the markets start turning, investors may become fearful and rash. Before making any significant moves to your portfolio, we urge you to get in touch with our team.

We’d be happy to discuss your long-term goals and tolerance for risk, as these should be the primary influences on your portfolio.

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Are Bonds Still Good Investments?