With interest rates so low, some advisers think investors have too much to lose by focusing solely on bond index funds
4 min
Baby boomers investing for retirement back in the ’80s, ’90s and ’00s rarely had to worry about the bonds in their nest eggs.
Bonds back then mainly served as risk-reducing ballast for when stocks tanked. And they weren’t that much of a sacrifice because they often paid healthy interest yields of 5% or more.
But now, when boomers are supposed to have increased bond weightings in their portfolios—40% or more of a nest egg, according to the conventional wisdom—rates have fallen to the floor. Interest yields on a bond index fund are as low as 1.1%. As a result, retirees and other index bond investors are left staring at tiny interest coupons and a greater risk of rising rates, and thus of lost principal.
“With interest rates near their historic lows, so close to zero, there’s generally only one direction they can go,” says Steve Kane, a manager of the $90 billion MetWest Total Return Bond fund (MWTRX).
In response, investors might want to consider adding to their fixed-income portfolios some bond funds that can offer higher yields than U.S. bond index funds and offer varying degrees of protection from the risk of rising rates. At the moment, commonly used bond-market calculations suggest that for every percentage-point rise in rates, a U.S. bond index fund will lose about 6% in price, wiping out years of interest receipts.
The main reason bond index funds are likely to get hit so hard is because of a feature in the index funds’ most widely used benchmark, the Bloomberg Barclays U.S. Aggregate. The “Agg,” as it’s known, is heavily weighted to the most conservative U.S. government bonds.
This investment-grade-only index is thus more vulnerable to rising rates because it doesn’t include some riskier categories of bonds such as high-yield, or “junk,” bonds, or floating-rate loans that pay higher interest and are often found in actively managed bond funds.
Indeed, sponsors of some actively managed target-date mutual funds—multiasset funds whose mix of investments grows more conservative as investors age—take action to serve retirees’ need for extra income by adding “diversifying buckets” of funds that aren’t part of the Agg index.
T. Rowe Price Group Inc., for example, puts about one-sixth of the bonds in its target-date fund for 70-year-olds in high-yield (or junk-bond), emerging markets and floating-rate funds. JPMorgan Chase & Co. puts one-fifth of retirees’ bonds in high-yield and emerging markets.
A series of retiree investment models designed by Morningstar personal-finance director Christine Benz allocates 14% to 22% of bonds to such categories, depending on investors’ risk appetites. Such bonds can “bump up yields and provide extra diversity,” Ms. Benz says.
The interest rates on these three kinds of funds may be double or triple that of a bond index fund. And funds that focus on some bonds, like high-yield and emerging markets, often outperform the index over a full market cycle. Funds of both types beat the index in the past decade, according to Morningstar.
These types of investments do make retirees’ portfolios riskier, however. All three categories got hit twice as hard as the safer index early last year, falling more than 20% in price while bond index funds fell just 8.6%, Morningstar says. Stocks fell 35% during the same period. Most of the losses have since been regained.
Still, seeking to avoid such swings is why some target-date fund sponsors, especially index managers like Vanguard Group, tend to avoid emerging-markets, junk and floating-rate bond funds.
Maria Bruno, head of U.S. wealth-planning research at Vanguard, says trying to boost bonds’ return this way is misguided. Ms. Bruno agrees with those who say bonds should be “ballast” for times when stocks tank. “They shouldn’t be seen as a return-generating investment,” she says.
Dan Oldroyd, head of target-date strategies at J.P. Morgan Asset Management, disagrees. Mr. Oldroyd says that with stock valuations “stretched,” adding risk in a bond bucket with high-yield and emerging markets is a reasonable step. Similarly, Kim DeDominicis, a target-date portfolio manager for T. Rowe, says high-yield and emerging-markets funds can offer possible higher returns and guard against rising rates with “modest increases to expected volatility.”
The target-date funds discussed earlier, including similar Vanguard funds, and the Morningstar buckets all include inflation-protected-bond allocations of 7% to 15% of total assets. While those bonds have yields near zero, they can help protect purchasing power if inflation kicks up.
Riskier, higher-yielding assets are common in actively managed bond funds. A majority of the dozen largest report holding more than 5% of assets in high-yield bonds; five say they have more than 5% in emerging-markets debt.
The $70 billion Bond Fund of America has 6.9% in high-yield and emerging markets. Margaret Steinbach, a fixed-income director for the fund, says higher doses of these kinds of riskier allocations “could potentially compromise the downside protection” of bonds.
But others are more gung-ho. “We’ve been adding high-yield and emerging-markets bonds,” says Mike Collins, co-manager of the $64 billion PGIM Total Return Bond Fund, which holds 14.8% in the two categories. He says individuals could hold as much as half of their bonds in such riskier buckets, depending on their time horizon and risk tolerance.
For do-it-yourself index investors who want to add such exposure, Ms. Benz suggests Vanguard High-Yield Corporate fund (VWEHX), iShares J.P. Morgan USD Emerging Markets Bond (EMB) exchange-traded fund and Fidelity Floating Rate High Income fund (FFRHX).
Less-daring options include bumping up the yield only slightly with an investment-grade corporate bond fund, or moving some bond assets to lower-yielding money-market funds or short-term bonds to reduce interest-rate risk.
Morningstar bond-fund analyst Eric Jacobson says retired bond investors can also try to boost returns more safely by choosing an active manager from among top core-plus bond funds—which typically allocate 15% to 20% of their assets to riskier debt—such as Mr. Kane’s MetWest Total Return Bond fund, Dodge & Cox Income (DODIX) or Fidelity Total Bond ETF (FBND).
While that requires paying a much higher fee on one’s entire bond bucket than for a bond index fund, Mr. Jacobson notes that active bond managers have generally outperformed the index, thanks partly to the riskier assets.
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What a quarter-million dollars gets you in the western capital.
Alexandre de Betak and his wife are focusing on their most personal project yet.
To get ahead, learn how to be a connector
4 min
Connectors always know just who you should talk to. They send the perfect introductory emails: warm, crisp, direct. And they make it look so effortless.
“It’s almost like music or something,” says David Dewane, a Chicago architect who loves introducing contacts from all parts of his life. “If you do it right, what you get is a little flash of possibility for both people.”
And possibility for the connector, too. Call it karma, the power of networks , or even just luck . If you become that hub for your friends and colleagues, it will come back to you, enriching your circles.
I think of people I know in my own life, the ones I speed text when I need a doctor for my kid. I feel so grateful, like they’re these life buoys that help keep me afloat. I wonder: Can the rest of us do that?
“We all develop a point at which the network that we’re in can’t satisfy our needs anymore,” says Brian Uzzi, a professor at Northwestern’s Kellogg School of Management who studies social network science.
When we become brokers, dipping in and out of various groups, we have access to all kinds of new information: little tips, fresh opportunities. Synthesizing multiple viewpoints, we’re better able to solve problems in innovative ways, Uzzi says. People love us for it.
Connectors are more likely to get promoted and win bigger bonuses , Uzzi says. In one study of M.B.A. students, those who acted as brokers between cliques were twice as likely to get the best job offers upon graduating, he adds.
The key is to give before you ask.
“The idea of reciprocity is very powerful,” says Greg Pryor, a longtime human-resources executive who now researches organizational psychology topics.
Need a favor while you’re building a relationship, and you’re automatically in debt, he says. Instead, his career has been guided by a pay-it-forward mentality. He ends most calls by asking, “Is there anything I can do to help you?”
One time, a colleague asked if Pryor could get an acquaintance of hers up to speed on the topic of corporate culture and values. He spent a day with the friend-of-a-friend and connected her to others in the industry he thought could help.
The woman ended up becoming the chief human resources officer at software company Workday. When Pryor was looking for his next job, he reached out to her. A few weeks later, he was the new head of talent at Workday.
He spent a decade there, the best stretch of his career, he says.
There’s an art to crafting the perfect email intro. Dewane, the Chicago architect who’s orchestrated thousands of introductions, is constantly scanning his mental Rolodex for pairs of contacts who can solve each other’s problems. He usually gets preapproval to reach out from both parties, then turns to his formula.
There’s two paragraphs—one for each person. He describes what they do, why he thought of them, and how they’re perfect to connect on this particular thing. He includes hyperlinks to both LinkedIn profiles. And he always puts the person who stands to gain more from the interaction last, queuing them up to initiate contact.
“I get kind of paranoid if intros just hang there,” he says.
If there’s a big difference in power between the two people, he choreographs the thread even more intricately. When connecting architecture students with professionals he knows at design studios, he’ll inform the students that he’s sending the email at 8 a.m. They are to reply by 8:04 a.m.
“I am going to open the door and then you are going to walk through it,” he says.
Oftentimes people freeze as they sit down to pen an email, scared of overpromising, says Erica Dhawan, a St. Petersburg, Fla.-based leadership consultant and author of a book about digital communication. Sliding into someone’s inbox involves risk. You’re encroaching on their time and looping yourself to two disparate contacts who may or may not hit it off.
Dhawan recommends using the phrase, “no guilt, no obligation,” when asking people if they’re open to connecting.
“I want them to feel like there’s mutual benefit,” she says, not like they’re doing her a favour.
Being on the receiving end of an introduction can also leave your stomach in knots, if it’s not done right.
“I’m in an email thread and I’m like, I don’t know why I’m here,” says Khaled Bashir, the founder of a marketing agency and AI startup in Toronto. “What am I supposed to do?”
Fellow founders will often connect him with potential clients. At least he thinks that’s what they are. The context is sometimes missing, and he’d appreciate a funny icebreaker so he can slide into the conversation without it having to be all business.
Bad intros can have happy endings, though.
Years back, Bashir was thrown into a random WhatsApp group by a client. No explanation, just him and one other guy. It turned out the other person was a fellow agency owner. The pair became fast friends. They bonded over the synergies in their work and a love of Japanese comics. Now, Bashir is selling the marketing part of his business to the friend, a move that will let him focus on growing his AI offerings.
To make connections less awkward, add food. Michael Magdelinskas, who works in government affairs for a consulting firm, hosts frequent dinner parties at his Manhattan apartment. Over sous-vide pork chops and cognac ice cream, he brings together everyone from former colleagues to acquaintances visiting from overseas.
He crafts guest lists by thinking about common hobbies, hometowns and the ratio of introverts to extroverts. Recently, a group of attendees formed their own Instagram chat thread, bonding over an inside joke. They didn’t even think to include Magdelinskas.
“That’s a good thing,” he says. “That means the process is working.”
