Key takeaways
- The Fed is still fighting sticky inflation, so interest rates—and bond yields—are likely to remain high.
- After a decade of minimal returns, bonds are attractive again. While cash positions were an effective diversifier last year, keeping clients in cash for too long could cause them to miss out on locking in higher yields for the longer term.
- 2022 was highly unusual. Bonds lost 10% in the first four months of the year, which is one of the worst returns in U.S. history.1Over the long term, bonds are still a great diversifier of equity volatility.
Take advantage of higher bond yields
Opportunities in the fixed income market abound in the second half of 2023 as sticky inflation continues to drive higher bond yields. Vanguard Chief EconomistJoe Davis predictsthat we will continue to see modest progress on the inflation front, in part because central banks will need to keep interest rates in restrictive territory to bring inflation down to their preferred 2% target. We’ll see some economic weakness in the second half of 2023 along with those higher interest rates.
“The one silver lining in all this is that you have parts of the financial markets, in particular the bond market, increasingly pricing in this reality of higher interest rates,” Davis said, “not only for this year but for the years to come.”
Because we are most likely near the end of the Fed’s rate hiking cycle, we believe now is the time toadd high-quality fixed income exposure. If a recession does arrive in the next quarter or two, we expect investment-grade bonds to hold up reasonably well and benefit from price appreciation once the Fed is able to cut rates.
Don’t get distracted by short-term thinking
Given the attractive yields money market funds offer now, you might be tempted to keep your clients in cash and wait for the “right” moment to get them back into the market, especially since fixed income markets and interest rates have continued to experience volatility in 2023. However, predicting the path of interest rates is notoriously hard to do. And in today’s environment, there’s less room for error now that yields have increased so much.
Bonds still an effective diversifier
Clients may still be experiencing strong emotions about last year’s market performance, but it may help to remind them that 2022 was a highly unusual year; bonds lost 10% in the first four months of 2022, which is among the worst returns in U.S. history.¹ But, the anomaly that was 2022 sets us up for better returns looking forward. According to Vanguard Global Head of Fixed Income Sara Devereux:
- Valuations are materially better than they’ve been. “We haven’t seen yields like this in a decade,” said Devereux.
- Income is back in fixed income. The coupon component of bond returns is very stable, offering a real buffer to price volatility.
- Diversification benefits are back. Last year was highly unusual, but in 2023, bonds are behaving more normally. Over the long term, bonds are a great diversifier of equity stress.
- If the recession we are forecasting arrives before the end of this year, it pays to remember that bonds tend to outperform in a recession.
Sample the strength of our fixed income funds
Take advantage of this opportunity to leverage bonds and potentially improve investment returns for your clients.
1 Jason Zweig.It’s the Worst Bond Market Since 1842. That’s the Good News.Accessed July 19, 2023 athttps://www.wsj.com/articles/its-the-worst-bond-market-since-1842-thats-the-good-news-11651849380.
Notes
- For more information about Vanguard funds or Vanguard ETFs, visit advisors.vanguard.com or call 800-997-2798 to obtain a prospectus or, if available, a summary prospectus. Investment objectives, risks, charges, expenses, and other important information are contained in the prospectus; read and consider it carefully before investing.
- Vanguard ETF Shares are not redeemable with the issuing Fund other than in very large aggregations worth millions of dollars. Instead, investors must buy and sell Vanguard ETF Shares in the secondary market and hold those shares in a brokerage account. In doing so, the investor may incur brokerage commissions and may pay more than net asset value when buying and receive less than net asset value when selling.
- All investing is subject to risk, including the possible loss of the money you invest. Diversification does not ensure a profit or protect against a loss. Be aware that fluctuations in the financial markets and other factors may cause declines in the value of your account. There is no guarantee that any particular asset allocation or mix of funds will meet your investment objectives or provide you with a given level of income.
- Bond funds are subject to the risk that an issuer will fail to make payments on time, and that bond prices will decline because of rising interest rates or negative perceptions of an issuer’s ability to make payments.
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FAQs
Among active funds, multisector bond funds such as Pimco Income performed best in 2023. Among other categories, the $67.1 billion Dodge & Cox Income DOXIX posted a 7.8% return, outperforming over 90% of its peers in the intermediate core-plus bond category. The average fund in the category returned 6.2% in 2023.
How did bonds perform in 2023? ›
The Morningstar Emerging Markets Composite Bond Index gained 9% in 2023, though the bulk of that performance came during the last quarter, mostly due to declining inflation rates and a weakening dollar. Some top developing-markets managers enjoyed continued success in 2023.
Will bonds do well in 2024? ›
2024 Bond Outlook at a Glance
Right now, the market and the Fed have differing expectations, which is creating volatility around every major economic data release.” In a recent report, Vanguard indicated that it expects U.S. bonds to return a nominal annualized 4.8% to 5.8% over the next decade.
Which government bonds are best to invest in 2023? ›
GOI Savings Bond: Offering a current interest rate of 8.05% till 31st December 2023, the GOI Savings Bonds are backed by the government, making them a stable and reliable investment. These bonds are ideal for those focused on capital preservation and desiring a steady income stream.
Which bond gives highest return? ›
Invest in safer portfolio without compromising returns.
| Bond name | Rating |
|---|
| 14.87% ICL FINCORP LIMITED INE01CY08224 Unsecured | Unrated |
| 8.80% L&T FINANCE LIMITED INE027E07AP2 Secured | INDIA AAA |
| 18.50% SUGEE ONE DEVELOPERS PRIVATE LIMITED INE483Y07306 Secured | Unrated |
| 12.10% IIFL FINANCE LIMITED INE866I08170 Unsecured | ICRA AA |
16 more rowsOur picks at a glance
| Rank | Fund | Net expense ratio |
|---|
| 1 | Vanguard High-Yield Corporate Fund Investor Shares (VWEHX) | 0.23% |
| 2 | T. Rowe Price High Yield Fund (PRHYX) | 0.70% |
| 3 | PGIM High Yield Fund Class A (PBHAX) | 0.75% |
| 4 | Fidelity Capital & Income Fund (fa*gIX) | 0.93% |
5 more rowsMar 15, 2024
High-quality bond investments remain attractive. With yields on investment-grade-rated1 bonds still near 15-year highs,2 we believe investors should continue to consider intermediate- and longer-term bonds to lock in those high yields.
What is the forecast for bonds in 2024? ›
In line with the outlook from other investment providers, the firm is forecasting a 5.7% gain in 2024 for U.S. investment-grade bonds, versus 4.9% last year and 2.3% in 2022. (All figures are nominal.)
What is the outlook on bonds? ›
We expect bond yields to decline in line with falling inflation and slower economic growth, but uncertainty about the Federal Reserve's policy moves will likely be a source of volatility. Nonetheless, we are optimistic that fixed income will deliver positive returns in 2024.
Should you sell bonds when interest rates rise? ›
If bond yields rise, existing bonds lose value. The change in bond values only relates to a bond's price on the open market, meaning if the bond is sold before maturity, the seller will obtain a higher or lower price for the bond compared to its face value, depending on current interest rates.
CDs are an excellent place to park your cash and earn interest on your balance. Although there's a risk of inflation outpacing CD interest rates, they are virtually guaranteed earnings. Bonds, on the other hand, may deliver higher returns and regular income via interest payments.
Will bonds bounce back? ›
The bond market will bounce back from this year's historic rout to have a stellar 2024, Goldman Sachs Asset Management strategist says.
Is 2023 a good year to buy bonds? ›
Bond Market Performance Rebounds in 2023
Following the worst bond market ever in 2022, fixed-income markets have largely normalized and rebounded in 2023. This year to date, fixed-income returns are positive, with those bonds that trade with a credit spread having performed better than U.S. Treasuries.
Are bonds a good idea in 2023? ›
Bonds may not be a good source of capital appreciation in 2023, but do provide yield. Equity upside may be limited by an uncertain economic landscape, so high yield bonds may offer better return opportunities.
What are the safest government bonds to buy? ›
Treasuries. Treasury securities like T-bills and T-notes are very low-risk as they're issued and backed by the U.S. government. They provide a safe way to earn a return, albeit generally lower than aggressive investments.
Should I invest in a bond fund in 2023? ›
Diversification benefits are back. Last year was highly unusual, but in 2023, bonds are behaving more normally. Over the long term, bonds are a great diversifier of equity stress. If the recession we are forecasting arrives before the end of this year, it pays to remember that bonds tend to outperform in a recession.
What is the forecast for bond funds 2023? ›
Corporate bond investments have posted some of the strongest returns in the fixed income universe so far in 2023, but it might be difficult to replicate that performance next year. Positive total returns seem likely, but excess returns—returns relative to Treasuries—might not be as high.
Which mutual funds will do well in 2023? ›
Among 2023′s best-performing funds: Baron Fifth Avenue Growth BFTIX, up 57.9%, and Fidelity Blue Chip Growth ETF FBCG, up 57.2%. Gains in both funds were fueled by the massive rally in Nvidia NVDA, which surged 230% this year.
What will I bonds do in May 2023? ›
The annual rate for Series I bonds could fall below 5% in May based on inflation and other factors, financial experts say. That would be lower than the current 5.27% interest on I bond purchases made before May 1, but higher than the 4.3% interest offered on new I bonds bought between May 1, 2023, and Oct. 31, 2023.
