2022 has been a tough year for investors all round, but many who thought they were protected against stock market volatility have found themselves right on the front line. Nobody warned them.
A huge number will be pensioners, looking to generate a reliable stream of income in retirement. Younger Isa investors have also adopted this investment strategy, only to come unstuck in this volatile year.
Government bonds and corporate bonds pay a regular stream income and are supposed to protect your capital as well.
Incredibly, bonds have enjoyed a 40-year bull market run, dating back to 1982.
They typically perform well when inflation and interest rates are low, as they pay a steady fixed rate of income.
This year’s inflationary surge has wiped them out.
Financial advisers tell clients that the perfect portfolio is invested 60 per cent in stocks and 40 per cent in bonds.
Equities give the growth, bonds the security.
There’s a name for this strategy. It is called the “60/40 portfolio” and millions have adopted it without realising.
Now it has imploded.
Shares and bonds are supposed to behave differently. When one performs badly, the other does better.
Typically shares shoot up when the economy is strong while bonds hold firm in a recession. They are known as “non-correlating asset classes”. Not any longer.
This year, the stock and bond market have both crashed at the same time. It is unprecedented.
A 60/40 portfolio has fallen up to 20 percent this year, says Vijay Valecha, chief investment officer at brokerage Century Financial. “That is its worst year since 1940.”
Some supposedly low-risk bond sectors have been savaged, according to new research from Interactive Investor.
The price of UK gilts, bonds issued by the UK government, have plunged a staggering 20.59 percent this year.
UK index-linked bonds have done even worse, losing 30.94 percent of their capital value.
This turned the argument that bonds are a safe investment on its head, said Sam Benstead, collective specialist at Interactive Investor.
“Government and corporate bonds are prized for their reliable income payments and are rarely at the bottom of the performance charts. But 2022 was the year that bond prices reset following more than a decade of steady returns.”
Bonds pay a fixed rate of interest and look at less attractive when inflation and interest rates are rising.
Yet the worst may now be over and investors should not sell. In fact, now could be a good time to buy bond funds instead.
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Benstead said if interest rates peak in early 2023 as expected, bond prices could recover.
“Yields on government and corporate bonds are much higher than a year ago, so savers now get more income. This year’s poor returns on bonds could set them up for strong returns in 2023.”
Richard Carter, head of fixed interest research at Quilter Cheviot, said the bond market is heading for another “regime shift” and the outlook for 2023 is much more positive. “Yields have returned to levels not seen in more than 10 years.”
Kathy Jones, fixed income chief at Charles Schwab, predicted that “bonds will be back in fashion in 2023”, although may still face “a bumpy ride”.
Once the inflation storm passes, bonds will be the biggest winners in 2023, agreed Tom Stevenson, investment director for Personal Investing at Fidelity International. He tipped two funds to buy.
His first choice is the Colchester Global Bond Fund, which invests mostly in government bonds. “I would expect this fund to do well and it may tempt investors are concerned about recession and looking for a safe haven.”
Stevenson’s second tip invests in both shares and bonds and is called Pyrford Global Total Return Fund. “It is a contrarian fund which will increase its exposure to stock markets when they fall, and shares become cheap. It is conservatively run and offers a potentially smoother ride to investors.”