On July 12, the Bank of Canada hiked its benchmark interest rate, recognizing the strength of our domestic economy and tightening monetary conditions for the first time since September 2010. This was followed by a second increase on September 6, 2017 confirming the trend. Investors should bear in mind the impact these rate hikes could have on their portfolios.
The central bank’s actions could be beneficial for investors in the long term, since new investments can be made at higher interest rates. However, these future gains come at the expense of the bond portfolio’s short-term performance. Interest rates and bond valuations are like two sides of a scale: if the one side goes up, the other invariably goes down. However, keep in mind that unless the bond issuer has declared bankruptcy, any decline in market value will be temporary, since the issuer will continue to pay coupons periodically and repay the borrowed principal at maturity.
In fact, central banks only control the overnight interest rate,
while the rates for longer-term securities are dictated by market
trends. For fixed-income securities, this valuation is generally a
function of expected inflation and future movements from central
banks. In recent years, we’ve seen that key rate increases from the
U.S. Federal Reserve are often followed by a drop in longer-term
There are a number of approaches investors can adopt to protect their bond portfolio from a potential interest rate hike:
Before adopting a new strategy involving fixed-income securities, investors should take a closer look at their overall portfolio. Even if the expected return is low for the next few years, these bonds provide a certain degree of stability in periods of stock market turbulence—an insurance policy that can be weakened by implementing alternative strategies.
When interest rates go up, investors need to maintain a holistic view of their portfolios. When a central bank tightens its monetary policy, it means that the underlying economy is in good health. This economic health should translate into a strong stock market and corporate debt market, resulting in attractive overall returns for the total portfolio.
The articles and information on this website are protected by the copyright laws in effect in Canada or other countries, as applicable. The copyrights on the articles and information may belong to the National Bank of Canada, its subsidiaries or other persons. Any reproduction, redistribution, communication by telecommunication, including indirectly via a hyperlink, or any other use thereof that is not explicitly authorized, of all or part of these articles and information, is prohibited without the prior written consent of the copyright owner.
The content of this Web site is provided for general information purposes and should not be interpreted, considered or used as if it were financial, legal, fiscal, or other advice in any way. In addition, the information presented on this Web site, whether financial, fiscal or regulatory, may not be valid outside the province of Quebec.
This article is provided by National Bank Direct Brokerage (NBDB) for information purposes only. It creates no legal or contractual obligation for NBDB and the details of this service offering and the conditions herein are subject to change.
The hyperlinks in this article may redirect to external websites not administered by NBDB. NBDB cannot be held liable for the content of external websites.
Views expressed in this article are those of the person being interviewed. They do not necessarily reflect the opinions of NBDB.