When people think of fixed income, they usually think of bonds. They also think of bonds as "safe" investments. Bonds are NOT safe investments! The market value or worth of those bonds is NOT fixed. Only the interest payments from the bonds are fixed. The value of the bond is fixed only on the date of maturity.
Here's the math: If you buy a bond for $1,000 paying 3%, you receive interest payments of $30 per year. If prevailing interest rates then rise to 4%, what happens? You still receive the same interest payments of $30 per year. But, why would anybody else pay you $1,000 for a bond that pays only $30 per year when they could buy another bond for a $1,000 that pays them $40 per year. However, they will pay you roughly $750 ($30/4%) for that bond that will mature at $1,000 on the maturity date but pays only $30 per year until then. So, you've had a 25% loss in market value of the bond. As I said, the market value of bonds is not fixed.
Now, because interest rates have been so low for so many years, investors needing income have increasingly bought bond alternatives, such as high-dividend stocks or REITs or MLPs. While perfectly good investments, neither their income nor market value is fixed. Here's my point: the market values of bond alternatives will also decrease as interest rates rise, although probably not as much as bond values will decrease.
Rates have moved up sharply in the last six weeks, which means the market values of most fixed-income assets have dropped. I expect that to continue, but I don't expect the income from those bond alternatives to decrease. I do expect investors will enjoy the continued income -- while complaining about the decrease in market values.
Here's the math: If you buy a bond for $1,000 paying 3%, you receive interest payments of $30 per year. If prevailing interest rates then rise to 4%, what happens? You still receive the same interest payments of $30 per year. But, why would anybody else pay you $1,000 for a bond that pays only $30 per year when they could buy another bond for a $1,000 that pays them $40 per year. However, they will pay you roughly $750 ($30/4%) for that bond that will mature at $1,000 on the maturity date but pays only $30 per year until then. So, you've had a 25% loss in market value of the bond. As I said, the market value of bonds is not fixed.
Now, because interest rates have been so low for so many years, investors needing income have increasingly bought bond alternatives, such as high-dividend stocks or REITs or MLPs. While perfectly good investments, neither their income nor market value is fixed. Here's my point: the market values of bond alternatives will also decrease as interest rates rise, although probably not as much as bond values will decrease.
Rates have moved up sharply in the last six weeks, which means the market values of most fixed-income assets have dropped. I expect that to continue, but I don't expect the income from those bond alternatives to decrease. I do expect investors will enjoy the continued income -- while complaining about the decrease in market values.
