The U.S. bond market lost % in as measured by Barclay&#;s Aggregate Bond Index. With the Federal Reserve hinting at rate increases in , the year ahead might not look much better. So with yields low and rates projected to rise, why should I own bonds?

Bond Math

As an asset class, bonds have less risk for loss of principal than all other asset classes except cash. So then, how did they lose money in when all other asset classes made money? The answer is the rise in interest rates.

If you bought the average bond on January 1, , it yielded about %. On December 31, similar bonds were now yielding %.  To an investor, your bond that yields % is worth less than the % bonds. As a result, the value of your bond takes a hit. If you sold it today, you would lose some money. Note that if you hold the bond until maturity, you will still earn % per year on average. Those investors who waited until December to buy the same bond will average %, albeit for one less year.  

A bond&#;s interest rate sensitivity can be measured by duration, which is the bond&#;s maturity adjusted by the cash flows over its life. The current duration of the bond market is about seven years. If interest rates rise by 1% over the coming year, the bond market will lose 7% in value but still earn % of income. Therefore, the total return for one year would be a loss of % (% less 7% = %). If you know that interest rates are increasing, buying bonds after rates rise would be beneficial. You avoid the loss of % and buy a bond that yields %.

What the Federal Reserve Controls

The Fed is signaling 3 to 4 interest rate increases in for as much as 1%. It is important to note that the Fed would be raising the Federal Reserve Discount Rate, not the U.S. year Treasury or a year mortgage. The discount rate directly impacts variable borrowing rates such as the prime rate, but it does not directly impact bonds, such as mortgages. Since investors mostly own Treasuries, mortgages, and other bonds not tied to the discount rate, most bonds are not directly impacted by the Fed&#;s increases.

However, the Fed can directly impact these bonds through bond transactions. By buying or selling bonds, the Fed affects the prices of bonds, which causes the yields to move lower (when buying) or higher (when selling.) With the Fed buying fewer bonds and potentially selling bonds, there will at least be less downward pressure on rates and possibly upward pressure on rates.

The bond market doesn&#;t wait on the Fed. Before the Fed even announces decisions, economic forecasts can often predict these actions, and the bond market will move in anticipation. As a result, it is possible (though extremely difficult to say with certainty) that the bond market is already reflecting 3 to 4 rate increases. In this scenario, buying the % bond will yield a total return of % because rates did not move after the Fed decisions. Holding cash for a year and earning close to 0% could be a poor investment.

Other Investment Options

Cash is always an investment option, but pays close to nothing for now. If you don&#;t want to own bonds or cash, the other options are riskier investments such as real estate, stocks, commodities, currencies, etc. Most of these other investments have had strong performances over the past few years. There is a very good possibility that returns in riskier asset classes will be lower than their recent returns in the next few years. They could even experience losses.

I don&#;t know if riskier assets will do well in But, in the long run, I think they are an important part of a long-term growth strategy. However, adding to these investments now increases the overall risk in your portfolio at a potentially inopportune time.

Back to Bonds

This brings us back to bonds. They are safer than most other asset classes and higher-yielding than cash. If you don&#;t want to own interest-rate sensitive bonds, shorter-term bonds carry less interest rate risk (offset by lower yields). Higher-yielding bonds are also available, provided you are comfortable with their unique risks.

Owning bonds today is still relevant because they provide steady income and protect portfolios when risky assets fall. If you rely on your portfolio for spending, the bond portion should protect your spending level. And, you can sell bonds and take advantage of lower prices in risky assets. If all of your money is in risky assets when they fall, you would be unable to &#;buy low.&#;

Summary

Regarding the role of bonds in your portfolio: how much you should invest and what types of bonds are appropriate are great questions to consider. Again, do your research and ask your advisors before making any changes.

Bill Wendling is a Senior Portfolio Manager with Bedel Financial Consulting, Inc., a wealth management firm located in Indianapolis. For more information, visit their website at www.oldyorkcellars.com or email Bill at bwendling@www.oldyorkcellars.com.

To enjoy a comfortable financial future, investing is absolutely essential for most people. As the coronavirus pandemic demonstrated, a seemingly stable economy can be quickly turned on its head, leaving those who weren&#x;t prepared for tough times scrambling for income.

But with bonds and CDs yielding so low, some assets at astronomical valuations and the economy struggling with surging inflation, what are the best investments for investors to make this year? One idea is to have a mix of safer investments and riskier, higher-return ones.

The best investments in

1. High-yield savings accounts
2. Short-term certificates of deposit
3. Short-term government bond funds
4. Series I bonds
5. Short-term corporate bond funds
6. S&P index funds
7. Dividend stock funds
8. Value stock funds
9. Nasdaq index funds
10. Rental housing
11. Cryptocurrency

Why invest?

Investing can provide you with another source of income, fund your retirement or even get you out of a financial jam. Above all, investing grows your wealth &#x; helping you meet your financial goals and increasing your purchasing power over time. Or maybe you&#x;ve recently sold your home or come into some money. It&#x;s a wise decision to let that money work for you.

While investing can build wealth, you&#x;ll also want to balance potential gains with the risk involved. And you&#x;ll want to be in a financial position to do so, meaning you&#x;ll need manageable debt levels, have an adequate emergency fund and be able to ride out the ups and downs of the market without needing to access your money.

There are many ways to invest &#x; from very safe choices such as CDs and money market accounts to medium-risk options such as corporate bonds, and even higher-risk picks such as stock index funds. That&#x;s great news, because it means you can find investments that offer a variety of returns and fit your risk profile. It also means that you can combine investments to create a well-rounded and diversified &#x; that is, safer &#x; portfolio.

Overview: Best investments in

1. High-yield savings accounts

A high-yield online savings account pays you interest on your cash balance. And just like a savings account earning pennies at your brick-and-mortar bank, high-yield online savings accounts are accessible vehicles for your cash. With fewer overhead costs, you can typically earn much higher interest rates at online banks. Plus, you can typically access the money by quickly transferring it to your primary bank or maybe even via an ATM.

A savings account is a good vehicle for those who need to access cash in the near future.

Best investment for

A high-yield savings account works well for risk-averse investors, and especially for those who need money in the short term and want to avoid the risk that they won&#x;t get their money back.

Risk

The banks that offer these accounts are FDIC-insured, so you don&#x;t have to worry about losing your deposit. While high-yield savings accounts are considered safe investments, like CDs, you do run the risk of losing purchasing power over time due to inflation, if rates are too low.

Where to open a savings account

You can browse Bankrate&#x;s list of best high-yield savings accounts for a top rate. Otherwise, banks and credit unions offer a savings account, though you may not get the best rate.

2. Short-term certificates of deposit

Certificates of deposit, or CDs, are issued by banks and generally offer a higher interest rate than savings accounts. And short-term CDs may be better options when you expect rates to rise, allowing you to re-invest at higher rates when the CD matures.

These federally insured time deposits have specific maturity dates that can range from several weeks to several years. Because these are time deposits, you cannot withdraw the money for a specified period of time without penalty.

With a CD, the financial institution pays you interest at regular intervals. Once it matures, you get your original principal back plus any accrued interest. It pays to shop around online for the best rates.

Because of their safety and higher payouts, CDs can be a good choice for retirees who don&#x;t need immediate income and are able to lock up their money for a little bit.

Best investment for

A CD works well for risk-averse investors, especially those who need money at a specific time and can tie up their cash in exchange for a bit more yield than they&#x;d find on a savings account.

Risk

CDs are considered safe investments. But they do carry reinvestment risk &#x; the risk that when interest rates fall, investors will earn less when they reinvest principal and interest in new CDs with lower rates, as we saw in and The opposite risk is that rates will rise and investors won&#x;t be able to take advantage because they&#x;ve already locked their money into a CD. And with rates expected to rise in , it may make sense to stick to short-term CDs, so that you can reinvest at higher rates in the near future.

It&#x;s important to note that inflation and taxes could significantly erode the purchasing power of your investment.

Where to buy a CD

Bankrate&#x;s list of best CD rates will help you find the best rate across the nation, instead of having to rely on what&#x;s available only in your local area. Alternatively, banks and credit unions typically offer CDs, though you&#x;re not likely to find the best rate locally.

3. Short-term government bond funds

Government bond funds are mutual funds or ETFs that invest in debt securities issued by the U.S. government and its agencies. Like short-term CDs, short-term government bond funds don&#x;t expose you to much risk if interest rates rise, as they&#x;re expected to do in

The funds invest in U.S. government debt and mortgage-backed securities issued by government-sponsored enterprises such as Fannie Mae and Freddie Mac. These government bond funds are well-suited for the low-risk investor.

These funds can also be a good choice for beginning investors and those looking for cash flow.

Best investment for

Government bond funds may work well for risk-averse investors, though some types of funds (like long-term bond funds) may fluctuate a lot more than short-term funds due to changes in the interest rate.

Risk

Funds that invest in government debt instruments are considered to be among the safest investments because the bonds are backed by the full faith and credit of the U.S. government.

If interest rates rise, the prices of existing bonds drop; and if interest rates decline, the prices of existing bonds rise. Interest rate risk is greater for long-term bonds than it is for short-term bonds, however. Short-term bond funds will have minimal impact from rising rates, and the funds will gradually increase their interest rate as prevailing rates rise.

However, if inflation stays high, the interest rate may not keep up and you&#x;ll lose purchasing power.

Where to get it

You can buy bond funds at many online brokers, namely those that allow you to trade ETFs or mutual funds. Most brokers that offer ETFs allow you to buy and sell them at no commission, while mutual funds may require you to pay a commission or make a minimum purchase, though not always.

4. Series I bonds

The U.S. Treasury issues savings bonds for individual investors, and an interesting option for is the Series I bond. This bond helps build in protection against inflation. It pays a base interest rate and then adds on a component based on the inflation rate. The result: If inflation rises, so does the payout. But the reverse is true: If inflation falls, so will the interest rate. The inflation adjustment resets every six months.

Series I bonds earn interest for 30 years if they are not redeemed for cash.

Best investment for

Like other government-issued debt, Series I bonds are attractive for risk-averse investors who do not want to run any risk of default. These bonds are also a good option for investors who want to protect their investment against inflation. However, investors are limited to buying $10, in any single calendar year, though you can apply up to an additional $5, in your annual tax refund to the purchase of Series I bonds, too.

Risk

The Series I bond protects your investment against inflation, which is a key downside to investing in most bonds. And like other government-issued debt, these bonds are considered among the safest in the world against the risk of default.

Where to get it

You can buy Series I bonds directly from the U.S. Treasury at www.oldyorkcellars.com The government will not charge you a commission for doing so.

5. Short-term corporate bond funds

Corporations sometimes raise money by issuing bonds to investors, and these can be packaged into bond funds that own bonds issued by potentially hundreds of corporations. Short-term bonds have an average maturity of one to five years, which makes them less susceptible to interest rate fluctuations than intermediate- or long-term bonds.

Corporate bond funds can be an excellent choice for investors looking for cash flow, such as retirees, or those who want to reduce their overall portfolio risk but still earn a return.

Best investment for

Short-term corporate bond funds can be good for risk-averse investors who want a bit more yield than government bond funds.

Risk

As is the case with other bond funds, short-term corporate bond funds are not FDIC-insured. Investment-grade short-term bond funds often reward investors with higher returns than government and municipal bond funds.

But the greater rewards come with added risk. There is always the chance that companies will have their credit rating downgraded or run into financial trouble and default on the bonds. To reduce that risk, make sure your fund is made up of high-quality corporate bonds.

Where to get it

You can buy and sell corporate bonds funds with any broker that allows you to trade ETFs or mutual funds. Most brokers allow you to trade ETFs for no commission, whereas many brokers may require a commission or a minimum purchase to buy a mutual fund.

6. S&P index funds

If you want to achieve higher returns than more traditional banking products or bonds, a good alternative is an S&P index fund, though it does come with more volatility.

The fund is based on about five hundred of the largest American companies, meaning it comprises many of the most successful companies in the world. For example, Amazon and Berkshire Hathaway are two of the most prominent member companies in the index.

Like nearly any fund, an S&P index fund offers immediate diversification