An Inconvenient Truth: 
Bonds Have Vicious Bear Markets Too
July 17, 2013
 
Over the years, most of us have grown accustomed to the tried and true method of permanently holding bond funds within client accounts.  These investment vehicles have come through for us time and time again, providing a cushion to those nasty stock market drops that happen every several years.  After all, if we could get high single-digit returns from an asset class that never dropped more than high single-digits, why not buy and hold?  As a local mortgage company's commercial says, "It's the biggest no-brainer in the history of mankind." 

Better think again

Unfortunately, bond funds aren't the cute, cuddly pets we've been conditioned to hold forever.  They do have their own bear markets, which can be vicious in their own right.  Sure, your average intermediate-term bond fund will probably never drop as much as your average stock fund has, but you'll be surprised to learn just how far they can and do drop.

Bond Bear Markets:  An Inconvenient Truth

This first chart shows how much the average intermediate-term bond fund fell during each bond bear market since the 1950's.

Worst Bond Markets

That 1968-1970 bar looks sickening, with a -26% drop using month-end data.  It's safe to say they probably hit -30% intra-month.  Imagine talking to your clients after that Armageddon-esque plunge.  Keep in mind, the bond market "panic" we just went through would barely show up on the chart, with maybe a -5% hit.  The median drop on this chart is -12.5%, so -5% is nothing.  Also notice that the much talked about big, bad bond bear market in 1994 is laughably small.  We only included it here because it is talked about so much in the media.  Otherwise, it would only warrant a footnote.

Trying to come to terms with reality

What caused these bond bear markets?  Was it inflation?  Was it the Fed?  How about the economy?
 
The short answer is it depends.

Obviously, rising rates negatively impact bond prices, but why do rates rise?  Here are some charts for helping to sort it all out. 
CPI Bond Bears
Many of the bear markets had an inflationary environment, but not all.
Fed Fund Bond Bear
Excluding the financial crisis of 2008, all of the bear markets had the Fed actively raising the fed funds rate.  It's safe to say that bond markets like stable to falling interest rates, not rising ones.

Ind Prod Bond Bear
This chart gives a conflicting message because during bond bear markets, sometimes the economy is contracting and sometimes it is expanding.  

OK, it all looks painful, but stocks will bail me out, right?

This final chart shows how stocks and a typical 60/40 stocks/bonds split did during these bond bear markets.  It ain't pretty:
60 40 Bond Bears
During the past 57 years, stocks only bailed you out once!  All the other bond bear markets, stocks dropped as well, sometimes by more than the bonds!

Bottom-Line:

Since most of us aren't going to sell all of our intermediate-term bond funds and load up on floating rate funds or whatever we're being told will hold up well in a bond bear market (don't look at 2008's numbers), we're suggesting a better alternative for this environment IS an alternative.  Alternative bond fund strategies offer clients the opportunity for potential gains in a rising rate and/or inflationary environment.  By having the ability to take short-to-intermediate-term positions in long and/or inverse bond funds, there is the potential to make money in bond bull and bear markets.  If we just entered a bond bear market, that could possibly unwind some or most of the last 32 year bond bull market's gains, it might be worth taking a new look at liquid alternative bond strategies.

Please contact us to discuss how these strategies can benefit your clients. 

 

 

(877) 885-7468

www.optimusadvisory.com 

info@optimusadvisory.com 

 

 

Optimus Advisory Group's Mission
At Optimus Advisory Group, we're meeting the need for liquid tactical & alternative investment strategies.  
 

For more information about any of our programs, please contact us.  You may also download the fact sheets for any of our investment strategies by scrolling back up to the top and clicking the Investment Strategies webpage link.  Each fact sheet contains disclaimers and disclosures for each model.

 

Thank you for your interest in our investment strategies.  We'll continue to keep you informed as we move forward.

 

Sincerely,

 


Steve Rumsey

Chief Investment Officer
Optimus Advisory Group

(949) 727-4734

 

Advisory services offered through Optimus Advisory Group,
a registered investment advisor.

 

Disclosures

The performance results shown include the reinvestment of dividends and other earnings. Comparison of the Optimus Advisory Group Programs to any other indices is for illustrative purposes only and the volatility of the indices used for comparison may be materially different from the volatility of the Optimus Advisory Group Programs due to varying degrees of diversification and/or other factors. Different types of investments involve varying degrees of risk and there can be no assurance that any specific investment will be profitable. Optimus Advisory Group does not make any representation that the Optimus Advisory Group Programs will or are likely to achieve returns similar to those shown in the performance results in this presentation. Optimus Advisory Group reserves the right to trade different funds within their models.
 

Past performance may not be indicative of future results. Therefore, no current or prospective client should assume that future performance will be profitable, or equal to any corresponding historical index. The S&P 500 Composite Index (the "S&P") is a market capitalization-weighted index of 500 widely held stocks often used as a proxy for the stock market. Standard & Poor's chooses the member companies for the S&P based on market size, liquidity, and industry group representation. Included are the common stocks of industrial, financial, utility, and transportation companies. The historical performance results of the S&P (and those of all indices) do not reflect the deduction of transaction and custodial charges, nor the deduction of an investment management fee, the incurrence of which would have the effect of decreasing indicated historical performance results. The S&P is not an index into which an investor can directly invest. The historical S&P performance results (and those of all other indices and index funds used as proxies for indices) are provided exclusively for comparison purposes only, so as to provide general comparative information to assist an individual client or prospective client in determining whether the performance of the Optimus' portfolio meets, or continues to meet, his/her investment objective(s). It should not be assumed that any Optimus portfolio holdings will correspond directly to any such comparative index.
 

Different types of investments and/or investment strategies involve varying levels of risk, and there can be no assurance that any specific investment or investment strategy (including the investment strategies devised or undertaken by Optimus Advisory Group) will be profitable for a client's or prospective client's portfolio. All performance results have been compiled solely by Optimus Advisory Group and have not been independently verified.
 

The Optimus performance results do not reflect the impact of taxes.