Thursday, October 15, 2009

Going Short - Duration

If you have money in long-term bond funds, now would be the time to get shorter. Why?

  1. When interest rates fall, the value of bonds goes up. When rates increase, the value drops. With rates at historically low levels, there is little or no chance of "upside" and significant risk that rates will rise.
  2. In terms of time sensitivity, long term bonds will react more to interest rates than will short term bonds.

In the current interest rate environment, long term bonds are a bad investments. BUT – you can hold them to maturity and get your money back. With long term bond funds, you don't have that option and your fund's NAV will drop as interest rates rise.

Simply put, I would avoid any bond fund with a duration greater than 5 years.

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