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You probably know that fixed-income investments can help provide diversification, stability and income for your portfolio. But did you know you can help enhance these benefits by investing in different asset classes within fixed income? Let’s take a closer look.
This asset class, which includes investment-grade bonds issued by the U.S. Treasury, government agencies and companies, should be the majority and the core of your fixed-income portfolio. Prices on these bonds tend to fluctuate less and move in the opposite direction of stock prices, which can help provide diversification and stability for your portfolio. Interest rates have risen recently, which has caused bond prices to fall, but this may provide opportunities for higher income in the future.
This asset class includes investment-grade bonds issued by foreign governments and companies. Because other countries experience different economic cycles, interest rate environments and market conditions, their bonds may fluctuate differently from U.S. bonds. We recommend focusing on developed markets and investing a small allocation through diversified and professionally managed mutual funds. Although interest rates on international bonds have recently risen from historically low levels, many government bonds still have negative yields. Therefore, we think these bonds are currently less attractive than other fixed-income asset classes.
High-yield bonds, which include below-investment-grade bonds issued by U.S. companies and municipalities, typically pay higher income than investment-grade bonds. However, this asset class also carries more risk, so we recommend a small allocation in high-yield bonds through diversified and professionally managed mutual funds. These investments are typically more sensitive to credit risk than to interest rate changes, which can provide diversification benefits relative to other fixed-income asset classes. However, high-yield bonds are not likely to provide significant diversification benefits relative to stocks, as they tend to fluctuate similarly. Rates on high-yield bonds have fallen and prices have risen recently, but we believe these bonds should benefit from continued economic growth.
If you’re interested in learning more about these bond asset classes, contact your financial advisor. He or she knows your entire financial picture and can help you decide which fixed-income investments may be right for you.
Diversification does not ensure a profit or protect against loss.
Before investing in bonds, you should understand the risks involved, including credit risk and market risk. Bond investments are also subject to interest rate risk such that when interest rates rise, the prices of bonds can decrease, and the investor can lose principal value if the investment is sold prior to maturity. High-yield bonds are subject to greater risk of loss of principal and interest, including default risk, than higher-rated bonds.
Special risks are inherent to international investing, including those related to currency fluctuations and foreign political and economic events.