Investing in Bond Funds: What’s in Your Bond Fund?

Investors who rely primarily on duration in choosing a bond fund may inadvertently introduce extension risk to their bond portfolio. Extension risk occurs when the low duration assigned to a portfolio’s callable bonds “extends” to their respective maturities due to the unlikelihood of the bonds being called as market interest rates rise. Over the past 30 years, bond market yields have trended down to a nadir reached in 2012. During this period investors correctly focused on a bond’s yield to call as the likelihood of this occurrence was higher in a declining interest rate environment. Since then, the Federal Reserve’s Zero Interest Rate Policy response to the Great Financial Crisis of 2008 is nearing its end as demonstrated by the Fed’s end to asset purchases in October 2014. Perceptively, fixed income investors have become increasingly worried about rising interest rates and the negative impact on bond market prices. In anticipation of rising rates, investors focused on the purchase of short-term, lower duration bond funds in an attempt to mitigate interest rate risk…

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About the Author:

Bruce Hyde is a Partner, Chief Compliance Officer and Wealth Advisor at Round Table Wealth Management. Read Bruce's Biography >