Advisers revisit bond ladders as rates rise

As interest rates head higher, pushing bond prices down, advisers seek safety in individual bonds

Oct 29, 2018 @ 12:51 pm

By Jeff Benjamin

The rising interest-rate cycle, which is generally bearish for the price of bonds, has some financial advisers embracing bond-laddering strategies to help smooth the ride on the fixed-income side of client portfolios.

Buying individual bonds of staggered maturities and holding them to maturity has brought some peace of mind to Dennis Nolte's older clients.

"I'm seeing more and more people interested in individual bonds," said Mr. Nolte, vice president at Seacoast Investment Services.

Fans of bond ladders say using them lowers reinvestment risk and reduces the guesswork involved in playing the yield curve, which is currently flat and favoring shorter-term bonds for laddered strategies.

While some of the projected yields might be lower than what could be gained by holding some bond funds, Mr. Nolte said clients who are in their late 50s and older are more comfortable sitting in laddered portfolios of bonds and certificates of deposit.

He typically structures the bond portfolios so securities mature at intervals of between six months and a year, at which point the money can be reinvested in another bond or allocated elsewhere in the portfolio.

"If you're going to take a lot of risk and get a smaller yield, why not take something more certain?" Mr. Nolte said.

It is true that over time, a laddered-bond portfolio could be as volatile as a traditional bond fund, but there is a significant difference in that when bonds are held to maturity, the ultimate gain is locked in, barring a default. And considering the type of conservative fixed-income instruments used in most bond-ladder strategies, default risk is minimal.

"With an individual-bond portfolio, you know what all the bonds are that you own, and each bond has a defined maturity, which offers comfort because you know exactly what you will make on that bond," said David Schneider, founder of Schneider Wealth Strategies.

Mr. Schneider uses both individual bonds and bond funds for his clients, depending on their preference and comfort levels.

He does believe there is a psychological advantage to allocating to individual bonds for nervous clients, "because a bond will always mature at par, and you cannot lock in your return in a mutual fund."

David Wilson, senior wealth manager at Watts Capital, also believes in making the extra effort to build individual bond portfolios for clients. "We don't know what's going on when we buy funds or ETFs; the fund manager could be buying and selling frequently inside the fund," he said.

Mr. Wilson also likes the psychological impact that individual bonds can have on clients.

"If you buy individual bonds, it focuses investors on the long term, and as long as you're regularly buying and being systematic and laddering those positions, you will benefit because you're buying at higher rates," he added. "I think there's a psychological thing for investors because it focuses them on the long term and takes the emotions of rising rates out of it."

For advisers, buying individual bonds usually means extra work because it requires bidding against larger and more sophisticated institutional investors.

Mr. Wilson accesses individual bonds via the Schwab platform where most of his clients' assets are custodied.

Mr. Nolte, who advises a lot of clients on company-sponsored retirement plans that don't provide access to individual bonds, will often roll assets into a separate individual retirement account to buy the bonds.

"We'll take the majority of the bond portfolio and move it to something fixed, where you always have something coming due every six months," he said.

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