Bonds still make sense for a diversified portfolio: Pierce

Investors expect interest rates to move higher but they should still hold bonds in a diversified portfolio, says Matthew Pierce, founder and portfolio manager at Island Light Capital, which manages the Income Portfolio on Covestor’s platform.

Pierce was recently quoted in a 2014 bond outlook by MainStreet.

Bond prices and yields move in opposite directions. Therefore, some investors are worried that rising interest rates may hurt the value of their bond funds.

Still, Pierce thinks it could be a mistake for investors to give up on bonds. He told MainStreet:

Bond yields are dependent on various factors, including the growth of the economy, expectations of inflation rates and monetary policy, said Matthew Pierce, a portfolio manager who runs 10 investment models on Covestor.

He estimates “there is a better than even chance that bond yields on the 10-year Treasury will reach 3.5% in 2014 compared to 3.0% at the beginning of the year.”

“This expectation assumes that the economy will continue to grow and the Fed will continue to taper,” Pierce said. “While this will likely lead to a modest drag on longer duration assets, we don’t expect a rapid rise in rates nor as large a drop in valuations as we observed in 2013.” Investing in short duration bonds can still provide a cushion against equity losses and therefore add diversification to the typical portfolio, he said.

“Fixed income always has a place in a properly diversified portfolio. While the character of the fixed income may change (long versus short duration or credit versus Treasury), it remains critically important that individuals maintain some exposure to fixed income in anything but the most aggressive portfolios,” Pierce said.

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