Municipal Bond Forum
Laddering if interest rates jump?
Q
Regarding your articles about problems with laddering: have you considered that if interest rate jumps to 10%, your original investment of $500,000 will decline? The principle investment value will be much less than $535,000.
A
James A. Klotz responds:
For “buy and hold” investors, market value is irrelevant. It is the additional interest received that distinguishes the long-term approach from laddering and produces more reinvestable income.
Over the life of long-term bonds they are sometimes worth more than their original cost and sometimes less. In either case the higher cash flow keeps coming. If long- term rates jumped to 10%, the additional income generated by the long-term portfolio would allow for reinvestment at these higher rates.
The laddered portfolio, while sacrificing 25% to 40% of income on a current basis, still only has bonds maturing every two years. When a short-term bond matures, the laddering strategy calls for buying a 10-year bond, which again will probably produce only 50% to 60% of the long rate.
Remember, any period of time that the U.S. economy experienced 10% rates was subsequently followed by a recession, which brought much lower interest rates.
Start here.
Do you have specific criteria for bonds you’re looking for? Let us know and we’ll e-mail you bonds that fit your needs. There is no charge for this service.
The responses provided in this forum are meant to address specific questions posed by investors about their municipal bonds and to provide market insight for our general audience. Please note, your investments, objectives, results and experience may differ significantly. Our answers and any potential strategies discussed should not be construed as a solicitation to buy nor sell any security or investment product. All investing entails risk.
