“Right now bonds should come with a warning label,” investing magnate Warren Buffett said in a recent interview with Fortune magazine. Apparently the safety of fixed income is no longer real. According to Buffett, bonds are “among the most dangerous of assets” right now because interest rates are not compensating investors for risk of lost purchasing power (i.e. inflation). With the Fed keeping borrowing costs near zero through 2014, current interest rates “do not come close to offsetting the purchasing-power risk that investors assume”
For a brief refresher: Treasury bonds generally pay their par value at maturity in U.S. dollars. Since the par amount is fixed, if the US dollar’s purchasing power decreases (i.e. inflation occurs) between today and maturity, the value of the bond will decrease as well. Coupons can counteract this, but only to a degree. This is why bondholders are highly exposed to inflation risk. If you heed the words of Warren Buffett, as many investors do, here are some non-bond ideas to keep in mind. If you’re interested in income, dividends offer an alternative to bond coupons.
Source: Kapitall
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