Investors with so-called safe bond funds in their portfolio could be in for a surprise. Last week, the Financial Industry Regulatory Authority (FINRA) issued a notice warning investors that in the event of rising interest rates, outstanding bonds with a low interest rate and high duration may experience significant price drops.
“With interest rates hovering near all-time lows, investors should make sure they know their duration numbers,” said Gerri Walsh, FINRA Vice President of Investor Education.
As explained in FINRA’s alert, a bond fund with a 10-year duration will decrease in value by 10% if interest rates rise 1%. In contrast, if a fund’s duration is two years, then a similar 1% rise in interest rates will result in only a 2% decline in the bond fund’s value.
FINRA urged Investors to keep in mind that just because a bond or bond fund’s duration is low, it does not mean the investment is risk-free. In addition to duration risks, bonds and bond funds are subject to inflation, call, default and other risk factors.
To find your bond fund’s duration, investors can look on the fund’s fact sheet. Investors holding individual bonds should start by asking their investment professional or the bond’s issuer, FINRA’s alert said.