Municipal Bond Forum
Laddering and the possibility of rising interest rates
Q
After reading your article, “Why laddering leaves you on the bottom rung,” it became very clear as to why over the last 25 years laddering has failed: Interest rates have been in a steady decline. I wonder, though, if laddering might not be the way to go for the future. Can we not expect a reversal of this decline? There really isn’t much expectation for lower interest rates, or am I wrong? I will be selling my business very soon, and companies I have been interviewing are all planning to use tax-free munis for the largest portion of my cash to provide my income. I honestly don’t know if they plan to ladder or not. I will certainly find out after reading your articles. I would still like a comment on the future position with regard to possibly rising rates making a ladder more attractive.
A
James A. Klotz responds:
Even if we were convinced that long-term interest rates will be rising substantially (and we are not), we wouldn’t recommend a laddered portfolio because it sacrifices too much reinvestable income.
Today, a 10-year laddered portfolio would yield approximately 3.50%, while long-term bonds yield approximately 5.00%. The long-term bond throws off 43% more income.
We always point out that over the life of a 20- or 30-year bond, it will sometimes be worth more than you paid for it and sometimes less. It doesn’t matter if you are in the market for the long haul.
Bonds are purchased for income, which is why we recommend maximizing cash flow with good quality bonds.
Remember, every period of rising rates is followed by a period of lower rates.
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