What Surging Bond Yields Mean for Your Portfolio | WSJ

The global bond market has gone through a massive change recently. We've seen the yields on the 10-year US Treasury note surge above 5% to levels we haven't seen in more than two decades. You might be wondering, if bond yields are soaring, then why is my portfolio balance shrinking? Let's get into the math. Let's say that you buy a $100 bond. That means that you get your $100 principal back at a future date, plus a fixed annual interest rate along the way. Now, imagine the market shifts. Investors start thinking that the Federal Reserve will raise short-term rates and that new bonds will offer 5% interest rates. You try to sell your bond, but you can't at full price because people are expecting those new bonds with juicier rates. To be competitive, you have to sell your bond for $92. Now, the person who has bought that bond from you will get more than $4 in interest every year. They'll also get eight extra dollars by holding the bond to maturity. the yield of the bond has gone up. As we at the journal are constantly writing, bond yields rise when their prices fall. There's no way around it. Rising yields can spell losses for bond portfolios. Even if you're only holding US treasuries, which face almost no risk of default. But there is some good news. If you own individual bonds yourself rather than invest in a bond fund, you can keep holding those bonds and collecting the interest payments, and then you'll get your full principle back at maturity. The only losses you'll face are paper losses. Also, those bonds that you bought in the past might be falling in price, but you can be a buyer yourself. You can go out and buy older bonds that are trading at a discount, or you can buy new bonds that paid higher interest rate. Either way, you'll be capturing those higher yields. Once bond prices stabilize, you can sit back and enjoy those higher yields. And if the Fed starts cutting interest rates, the whole process will work in reverse. Bond prices will start to rise, giving you a chance to sell your bond for a profit.