
Investment Insights are written by Angeles' CIO Michael Rosen
Michael has more than 30 years experience as an institutional portfolio manager, investment strategist, trader and academic.
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Published: 10272014
In our longterm assumptions, we generally assume that the total return in fixed income is pretty close to its starting yield. That’s because a bond’s total return is a function of two variables: yield and reinvestment yield. As yields move up and down, bond prices move inversely, down and up, but the reinvestment rate moves positively with yields. In the shortterm, changes in prices have a large impact on total return, but given enough time, the reinvestment yield (almost) completely offsets the price/yield function.
The table below (courtesy Morgan Stanley), shows the effect of interest rates rising from 3% to 8% at 50 basis points a year over 10 years. The total return over this decade works out mathematically to 3%, (not) coincidentally the starting yield.
There are risks to owning bonds, primarily higher inflation, and to a lesser extent default risk. But the laws of mathematics make us highly confident that the longterm nominal return for bond investors will be right around today’s yield.