When I was little, I saw a Bugs Bunny cartoon that included Bugs time-traveling into the far distant future. The world was fantastical, with all our sci-fi dreams coming true. That far distant future was the year 1999.
Seems pretty funny now. Not only did our sci-fi dreams not come true by that year, but today, 24 years later, 1999 seems practically old-fashioned.
In the financial world, 1999 is known as the year of the dot-com bubble. I remember listening to people talk about returns of 35 percent and higher in a single year.
What does that memory have to do with whether or not bonds are a good investment? When we make an investment, we have to look at that investment in past, present, and future terms. Has it been a good investment in the past? How does it look right now? And what is the outlook going forward?
In 1999, the past return on tech stocks was sensational. If you based your investment decisions strictly on the past, it would be reasonable to put all of your money into tech stocks. Unfortunately, many people did that, much to their regret. The first few years of the new century were known as the Tech Wreck, and there were many investor accounts wrecked during that period.
The opposite is now true of the bond market. Last year, 2022, was one of the worst years ever to own bonds. If we made our investment decisions strictly based on the past, it would be reasonable to avoid bonds completely.
But we also need to consider the present and the future when making investment decisions.
In the present, we are looking at the current condition of an investment. In the case of bonds, we first want to know its rating by one or more of the major rating agencies: S&P Global, Moody’s, and Fitch. This will inform us about how likely it is that the issuer, which might be a company or a government body, will pay us back our money plus interest. In other words, the rating agencies tell us the quality of the bond.
Next we look to see if the interest rate being offered is competitive in today’s market. If company A is offering us 4 perent interest and company B with the same bond rating is offering us 4.5 percent, then it’s natural to consider investing in B’s bonds over A’s.
The past and future also inform us. How do today’s interest rates compare with recent history? And how do they compare with the outlook for interest rates during the life of the bond?
When we look at interest rates today, they are much higher than at any time in the past decade. So while 2022 was a bad year to own bonds, today’s interest rate makes them look much more attractive than at the beginning of last year.
But what about the future? Will today’s interest rates look low compared to interest rates in 2024 and beyond?
The best we can do is guess. With that in mind, let’s look at the prevailing outlook for interest rates. The Federal Reserve estimates that 2024 interest rates will be lower. Most analysts see lower interest rates next year, and the market is pricing lower interest rates going forward.
If we assume this outlook is correct, then today’s interest rates are at or near their peak, at least for the next several years.
So are bonds a good investment today? If we use past performance as our guide, the answer would be no. But if we look at past, present, and expected future interest rates, the answer is yes.
Hal Masover is a Chartered Retirement Planning Counselor and a registered representative. His firm, Investment Insights, Inc is at 508 N 2nd Street, Suite 203, Fairfield, IA 52556. Securities offered through, Cambridge Investment Research, Inc, a Broker/Dealer, Member FINRA/SIPC. Investment Advisor Representative, Cambridge Investment Research Advisors, Inc., a Registered Investment Advisor. Investment Insights, Inc & Cambridge are not affiliated. Comments and questions can be sent to hal.masover@emailsri.com These are the opinions of Hal Masover and not necessarily those of Cambridge, are for informational purposes only, and should not be construed or acted upon as individualized investment advice. Investing involves risk. Depending on the types of investments, there may be varying degrees of risk. Investors should be prepared to bear loss, including total loss of principal. Past performance is no guarantee of future results.
Indices mentioned are unmanaged and cannot be invested in directly.