Yesterday’s Globe and Mail included an interesting article by Boyd Erman on the impact of “convexity” on bond prices. That is, the measure of the sensitivity of the price of a bond to changes in interest rates.
As advisors, we try to avoid jargon like volatility, duration, correlation and tracking error. One investor friend of mine defines volatility this way: “it means the investment will drop in value as soon as I own it!” The term “convexity” is totally out of bounds and reserved only for bond specialists!
But Mr. Erman makes a valuable point in the article. Ignore all the discussion about the shape of the yield curve. This is the key point – when bonds are only yielding 2%, a 1% increase in yields will result in a bigger drop in value when compared to a bond yielding 8%. So today’s investor has to be more acutely aware of the impact of rising interest rates on bonds in their portfolios. [read more >>]