One of the most important reference rates for the bond market (as well as the stock market, the mortgage market, the commodities markets, etc) is the 10 year yield on the US Treasury bond. Here's a look at that rate over the last 5 years:
My opinions reflect my bias, but I do think there are some interesting talking points readily available from the 10 year rate and it's history:
- the number is volatile! 2% and 5% are only 3 apart, but that's more than a 50% shift in nominal yield. A person holding a 10 year bond through a shift in rates from 2 to 5% or 5 to 2% would see a move in price of more than 20%
- The trend started long before the extreme shift in Fed policy that came out of the 2007 - 2008 financial crisis. The Fed moving their target rate to ~ 0% has definitely has an impact, but the macro trend was well in place more than 20 years before the "crisis"
- There is much discussion in the current marketplace about how rates "must rise" from here and how it is a "question not of if, but when"...My guess is that the reality of what is to come has room for multiple schools of thought to be borne out. Rates can rise, and even rise substantially from the current levels, and still fit within the macro trend.
- It is easy to imagine that what Bill Gross calls the "new normal" could persist, with rates bound in a fairly tight range on the lower end of the historical spectrum until some unknown event forces a material break in the pattern; my concern is that this unknown event (or events) could precipitate a significant shift in rates in a very short period of time.
- With all of the above in mind, our view is that there is still a place for people to find value in bonds and fixed income, but only with a thorough understanding of the risks involved. While there has always been a need to understand the risk of a bond issuer defaulting, or the potential for inflation to overtake the value in a fixed income investment, the current market highlights the need to properly account for duration risks (the volatility in present value as relates to a shift in interest rates).