Why We Hold Short-Term, High-Quality Bonds
Fun fact: did you know the bond market is actually bigger than the stock market?
It's really not that surprising if you consider governments can issue bonds, but not stock. The total bond market value is $146 trillion and the cumulative stock market has around $125 trillion of value.
However, bonds often get glossed over. When we talk to clients or prospects most folks want to hear about stocks, the market, and how we invest that portion of the portfolio. Rarely do bonds get asked about, but they're an important part of the portfolio too.
First, let's talk about what a bond is: the financial industry loves to make concepts more complex than reality, and bonds are a good example of this. A bond is simply a loan to a company, government, or other entity where you get your principal back plus some interest. There are a few other variables to bonds, but for the most part it's helpful to think of them simply as loans.
For our clients we like to hold short-term, high-quality bonds. Let's break down what that means.
Why Short-Term Bonds Matter
Bonds vary in how long until they mature (maturity is when you get your principal back). The longest maturity you'll typically see is 30 years, though you can also buy bonds that mature in just months.
Short-term means bonds that mature in 2 years or less. 2 to 10 years is typically categorized as intermediate, and 10+ years is long term.
Let's use the loan analogy again. If I agree to loan you money for one year, or for 10 years, which carries more risk for me as the lender? The 10-year loan, of course. I have to be confident you can pay for 10 years versus just one.
Because longer bonds carry more risk, they pay a higher interest rate to compensate. Generally, the longer the maturity of a bond, the higher the interest paid on it.
The way we measure this is called the yield curve. Below is the yield curve as of August 31, 2026 compared to December 31, 2025. The bottom axis is time and the vertical axis is interest.
The yield curve shows that you earn higher interest for holding bonds with longer maturities.
You may be asking: if I can get higher interest payments, why wouldn't I go for the longer maturity bonds? Just like the 10-year loan example, they carry a lot more risk. Not only default risk (the risk that a bond issuer goes bankrupt) but interest rate risk, meaning as interest rates change, our bonds are worth less.
Here's an example: say I hold a 10-year bond that pays me 3% interest. If interest rates rise and the current market rate is 4%, my 3% bond becomes undesirable. I'm getting less than market rate and locked in for 10 years. If I wanted to sell this bond, I'd have to offer a steep discount, since a buyer would rather find a bond paying the going 4% rate.
I could hold to the full term, but that means earning under-market interest for as long as I have left until maturity.
Investing in short-term bonds means we give up a little interest, but we also know that if rates change, we aren't locked in for more than two years, and our bond values hold pretty steady.
Why High-Quality Bonds Matter
Just like a credit score for individuals, bond issuers are given a credit rating. How those ratings are assigned would be a separate post in itself, so we'll stay high-level here. For a deeper dive, Fidelity has a good overview: Fidelity -Bond Ratings
There are two main quality categories: investment grade, meaning higher credit rating, and below investment grade (also called junk bonds), where issuers don't have as solid a financial footing and carry more risk.
As you'd guess, investment grade bonds don't pay as high of interest as junk bonds, because they're viewed as less risky.
We want bonds to be a stable part of the portfolio, so we don't take on the added risk of owning junk bonds. Again, we'll sacrifice a little interest to be confident the bonds we own will be paid out.
Bottom Line
Not everyone agrees with this approach to bonds, but our philosophy is straightforward: stocks are there to provide growth in the portfolio, and bonds are there for stability, and a place to tap should the market drop.
Alpha Financial Management is a fee-only, fiduciary financial planning firm with offices in Savannah, GA, Bluffton, SC, and Alpharetta, GA, dedicated to helping clients build sound retirement, tax, and investment strategies.
Comments