Morningstar - Q2 2021 - 7

Letter From the Editor

Bond Challenge

Jerry Kerns

Morningstar columnist John Rekenthaler
observed on Morningstar.com earlier this year that
today's bond markets are in a place they've
never been.1 Ever. He cited comments made by
researcher Laurence Siegel, who said that
the low level of interest rates around the globe is
" literally unprecedented in human history. "
Rates are negative in Switzerland and Japan
and essentially flat in other developed countries.
Said Siegel, " The idea that you have to
pay somebody to lend them money simply turns
the universe on its head. Gravity works
backwards. Apples fall upwards. I don't claim
to understand it. "
Nevertheless, in this issue's Morningstar
Conversation, we asked him to try. We
also wanted to understand what this environment
means for investors, especially those who
need to live off their investments. So, in addition
to Siegel, we invited two financial planning
experts, Michael Finke and Jonathan Guyton. With
Rekenthaler moderating, the trio had a fascinating,
in-depth discussion on the ramifications
for markets and portfolios in these extraordinary
times ( " Income Conundrum, " Page 56).
This issue's Spotlight also tackles the problem.
Interest rates in the U.S. have crept up since the
beginning of the year, but they're still in a
historically low range. With yields so low and the
outlook for bond returns likewise paltry, we
wondered how investors should approach bonds in
their portfolios. What role can they now fill?
Morningstar's Christine Benz and Amy Arnott
provide one important answer: Bonds are still able
to provide diversification with equities
( " As Diversifiers, Do Bonds Still Work? " Page 27).
Last year was a volatile year for fixed-income
investments, and some correlations with equities
did rise, but as Benz and Arnott detail, in the

end, bonds largely did their job in buffering losses
during the COVID-19 crash, especially U.S.
Treasuries. But correlations change over time, so
they also looked at longer-term trends and
analyzed how different bond types have performed
in relation to equities.
Next in Spotlight, fixed-income analyst Gabriel
Denis explores how we got here and how investors
should evaluate core bond funds in this lowrate world ( " Low Yields, Low Expectations, "
Page 33). He urges caution and suggests investors
stick with experienced bond managers who
run conservative strategies. He writes, " Part of the
job of the core bond manager has always
been balancing attractive yields without too much
credit or interest-rate risk. With yields as
low as they are across the fixed-income market,
this job is harder than ever for even the most
seasoned investor. "
Finally, to get a sense of how investors are
dealing with these challenges in the real world,
I interviewed members of the fixed-income
team at Morningstar Investment Management
( " Bonds Still Have a Role, " Page 36). They
paint a fairly bleak picture but haven't turned their
backs on bonds. They also raised a key point
all investors should heed: " We will not add
risk or excess volatility to a portfolio in an attempt
to offset lower yields. "

1 Rekenthaler, J. 2021. " Today's Markets Are in Uncharted Territory. " Morningstar.com. Jan. 7.

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Morningstar - Q2 2021

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