When describing the economic outlook before the Joint Economic Committee on May 22, Federal Reserve Chairman Ben Bernanke hinted that the Fed might take initial steps towards reducing its bond purchase program at one of its “next few meetings”. This means the Fed could scale back its continuing efforts to stimulate the economy by keeping long-term rates at record lows and increasing money supply with bond purchases – as long as the economy shows sustained improvement.
Market Response to Bernanke’s Comments
In the weeks following Bernanke’s remarks, a number of investors have gone on the defensive, selling bonds in case the Fed starts to decrease its bond purchases. Additionally, 10-year Treasury yields have steadily increased since mid-May, leading some to speculate that rising interest rates are here.
Bernanke is scheduled to make comments on Wednesday following a two-day Federal Open Market Committee meeting. He is expected to make additional comments about the Fed’s bond-buying program at this time.
Interest Rates and Your Investments
Whatever Bernanke may reveal in his post-FOMC meeting press conference, there are some things you can do now to safeguard your investments from rising interest rates.
First, don’t panic or start selling all of your bonds for cash. You could end up sitting in cash too long, remaining bearish on bonds, and miss an opportunity to collect interest on your investments.
It’s also unlikely the Fed will do anything rash.
“Remember that Bernanke suggested any reductions in the bond buying program will be modest,” says Craig Birk, Director of Portfolio Management for Personal Capital. “Any tapering of the program will be gradual and likely already anticipated by the markets.”
Next, it may be a good time to take a closer look at your portfolio. What types of bonds do you own?
“Rising interest rates don’t affect all bonds the same way,” says Birk. “If you own the aggregate bond market, and in the unlikely event that rates spike 2%, your losses should stay under 10% even before interest payments are considered.”
But it’s a different story if you own 10- and 20+ year Treasuries. If rates were to spike 2% you could face a loss closer to 15% and 30%, respectively.
It’s also important to keep your long-term investment strategy in mind. “I recommend owning a blend of different bonds with an appropriate risk level according to your target allocation,” says Birk.
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