Bonds

The bond market is swiftly declining on expectations of higher rates, but you can still manage risk in your fixed-income investments by selling longer-term bonds and buying short-term ones.

Recently, rising interest rates are signaling a decline for fixed-income investments. Bonds generally make up a significant portion of a diversified portfolio, so if the bond rally that began with the financial crisis is over, it pays to have bonds that maintain their value amid rising interest rates.

Shaky markets in recent weeks make some investors nervous. Are these temporary concerns? There are plenty of reasons for caution. Risks abound, from economic sluggishness overseas to our own slow growth.

In the financial markets, the summer usually means lower trading volumes and higher volatility. Interestingly enough, what is striking over the last six months is the definitive calm in financial markets. The volatility index, known as the VIX, is up a bit, yet still low.

When the facts change, your strategy should change, as well. If you stay wedded to the same investment plan all the time, you lose sooner or later.

I was talking to an advisor earlier in the week about my firm’s preference for tactical asset allocation, which rebalances the mix of your assets based on their performance trend, and weighing the portfolio by risk metrics. He told me a story about how he had allocated money to a tactical strategy that stopped working. This should not surprise a seasoned investor.

For some time now, I have warned about the crash that is sure to come when the Federal Reserve tightens monetary policy. We just got a glimpse of how bad it could be last month.

On May 22, Fed Chairman Ben Bernanke told Congress that the central bank might cut the pace of its bond purchases. Currently, the Fed buys $85 billion in government bonds and mortgage-backed securities.

The market has trended upward since November, albeit with the occasional hiccup along the way. It still reacts strongly to a burst of unexpected good or bad news. European and other jolts from abroad may get overlooked, but our own official economic reports remain events to watch for.

As U.S. stock indexes log new highs, anxiety-driven questions arise: How long can this rally last? Is it dangerous to add money now? Should I take money off of the table?

The two dominant philosophies of asset allocating assets are strategic and tactical. The former is best for building wealth when the economic picture brightens, and the latter is better for dealing with uncertainty. Whichever method you favor, diversification is still the way to go.

To understand the stock market lately, think of a college keg party, which the Federal Reserve is throwing. The only problem: It can’t go on forever. We got a taste of that last week, when Chairman Ben Bernanke said the Fed might ease off its bond-buying campaign (called quantitative easing) if unemployment dropped enough. The market dipped.

When I look at the stock market today, I feel as if many of the investors around me are willfully deluding themselves. The market’s advance is due to some extent to Federal Reserve support, not basic economic improvement. Stock investors should be wary.

It feels fantastic to reach new highs. I am glad that is happening and even expect the rally to continue a bit further, but this makes it no less an illusion. A reckoning over the country’s high levels of borrowing is coming. Ignorance is bliss, but only until reality catches up with you.

Today, investors are increasingly diversifying their portfolios by investing in foreign markets, and American businesses are finding opportunities overseas. The fastest growth is taking place in emerging markets, but you need to be cautious to make sure that you don’t run afoul of their regulations or get fleeced.