Bond lovers may be in for a nasty heart­break

The rum­blings have ramped up: In­ter­est rates are look­ing ripe to rise. That has sev­eral im­pli­ca­tions for savers, in­vestors and, per­haps es­pe­cially, bond­hold­ers. Robert John­son, pres­i­dent and CEO of The Amer­i­can Col­lege of Fi­nan­cial Ser­vices and lead au­tho

USA TODAY US Edition - - MONEY - Lisa Ki­plinger l USA TO­DAY

Q The cur­rent bull mar­ket is the long­est in his­tory. Are you see­ing signs that it’s ag­ing out?

A: The in­ter­est­ing as­pect of the ques­tion is that the as­sump­tion is it’s a ref­er­ence to an ag­ing bull mar­ket in eq­ui­ties. The real ag­ing bull mar­ket is in bonds. Es­sen­tially, we have been in a sec­u­lar long-term bull mar­ket for bonds since 1981. It seems that in­vestors are very con­ver­sant with de­vel­op­ments in the eq­uity mar­kets yet fail to see the high val­u­a­tions in the bond mar­kets.

Q But peo­ple of­ten turn to bonds when seek­ing safety — is that a mis­take?

A: The old adage that stocks are risky and bonds are safe is a mis­con­cep­tion. I be­lieve that for a long-term in­vestor there is con­sid­er­able risk in the bond mar­ket at the cur­rent time. The thing to re­mem­ber about eq­uity mar­kets is that they do con­tinue to trend up over long pe­ri­ods of time as economies grow in spite of short­term busi­ness cy­cles. The Dow Jones in­dus­trial av­er­age was at 49 in Jan­uary of 1900 and re­cently closed at over 18,570. Bet­ting on long-term growth in the Amer­i­can econ­omy has gen­er­ally worked out pretty well.

Q Some bonds are de­liv­er­ing at­trac­tive yields. Should in­vestors be tempted?

A: One of the worst moves in­vestors can make is to “reach for yield.” That is, some in­vestors have a spec­i­fied yield tar­get and sim­ply move down the credit qual­ity curve in or­der to meet that goal. Of­ten­times in­vestors for­get that high-yield bonds are re­ferred to as “junk” bonds for a rea­son. Q So are you say­ing stay away from bonds? A: I see no com­pelling case to own con­ven­tional bonds at the present time. Con­ven­tional bonds de­cline in price as mar­ket in­ter­est rates rise. Over the long run, there is a much greater prob­a­bil­ity of rates ris­ing than de­clin­ing from cur­rent lev­els. If an in­vestor wanted to take a po­si­tion in bonds to pro­tect wealth, Trea­sury In­fla­tion-Pro­tected Se­cu­ri­ties (TIPS) would be the in­vest­ment ve­hi­cles that I would likely ac­cess. As an al­ter­na­tive, some eq­ui­ties with strong bal­ance sheets and grow­ing div­i­dends can help gen­er­ate in­come, as long as the price you pay isn’t too high.

Q What al­ter­na­tives are worth con­sid­er­ing right now to bring safety to your re­tire­ment port­fo­lio?

A: Never has it been more true that a risk/re­turn trade-off ex­ists in the fi­nan­cial mar­kets. If one wants ab­so­lute safety in terms of pro­tect­ing prin­ci­pal, then ei­ther cash or TIPS are vir­tu­ally the only al­ter­na­tives. How­ever, in the cur­rent en­vi­ron­ment these as­sets pro­vide es­sen­tially zero re­turn. If you are in the re­tire­ment red zone — that is, are five years or less to re­tire­ment — at least some per­cent­age held in these as­sets may be ap­pro­pri­ate for you. If you have a longer time hori­zon, blue-chip, div­i­dendyield­ing eq­ui­ties pro­vide both in­come and po­ten­tial fu­ture cap­i­tal growth.

“The old adage that stocks are risky and bonds are safe is a mis­con­cep­tion.” Robert John­son, The Amer­i­can Col­lege of Fi­nan­cial Ser­vices

Robert John­son warns that high­yield bonds aren’t re­ferred to as “junk” bonds for noth­ing.

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