I thought investors hated bonds in the late 1990s when stocks were outperforming bonds by more than 20 percentage points per year, but that disappointment had far more to do with relative performance than absolute performance. That is no longer the case. Since January 2021, the Barclays Aggregate Bond Index has dropped more than 10%1, a stunning amount for what is typically considered a conservative asset class. A small loss in 2021 didn’t cause much concern, as large stock-market gains boosted diversified portfolios. But with the S&P 500 also negative for the year to date through April 20, 2022, diversified portfolios are feeling the sting of both the stock and bond markets for the first time in more than 40 years – the stock and bond markets have not posted calendar-year losses in the same year since before 19802.
To put the bond market’s losses in perspective, since 1980 (the inception of the benchmark Aggregate bond index) the worst calendar-year performance for the bond market has been a 2.9% loss which occurred in 19943. In fact, the benchmark has posted losses only four times in 40 years. It used to be said that a bad year for bonds is like a bad day for stocks. That may still be true, as the stock market has had some very bad days, but that line of thinking is falling flat in 2022.
I would like to say that the worst is over for bonds, but no one can say that with complete confidence. We do know the bond market is anticipating and pricing in a lot of bad news. The bond market expects multiple half point rate hikes from the Federal Reserve over the next few months, and for the Fed Funds Rate to be in the 2.5%-3.0% range by year end4. If rate hikes are smaller or fewer than expected, the bond market could post positive returns from this point forward. Also, bond math will help the market recoup losses over time. A bond originally priced at $100 may be trading at $90 due to rising rates, but that bond will still mature at $100, barring a default.
Are we seeing the end of the 60/40 portfolio? I don’t believe so. It’s a strange time when an 80/20 portfolio, a 60/40 portfolio, a 40/60 portfolio, and a 20/80 portfolio have all lost close to 9%5. There’s simply been no place to hide in 2022, with domestic investments, overseas investments, stocks, bonds, and emerging markets all struggling. However, a disastrous four months shouldn’t cause investors to question what has worked for 40 years. Looking forward, projected returns for the bond market will be higher because interest rates are now higher, and projected returns for the stock market will be higher because valuations are now more attractive.
The bond market deserves to be hated for the damage it’s done, but the damage will gradually be repaired. And over the long term, bonds should continue to provide ballast for diversified portfolios, with 2022 the exception that proves the rule.