Interest rates have been very low for quite a while now. Eventually, that is going to change. And when it does, bond investors could take it on the chin.
The reason: bond prices and interest rates have an inverse relationship. When interest rates rise, bond prices fall (longer maturity bonds are more vulnerable, as their rates are locked in for a longer period of time).
As a way of measuring interest rates, we can look at the history of the yield on ten-year Treasuries. Since the early 60’s, the average annual ten-year yield has been 6.56%. When the recession hit, rates dropped to a record low 1.8% in 2008. But they didn’t start to climb back up just because the recession ended. That’s because the Federal Reserve has held rates down with their program to stimulate the economy.
The Federal Reserve has signaled a rate hike in the spring 2015. Whether rates rise later or sooner, the fact that a hike is on the radar means bond investors would behoove themselves to be ready.