Why have Bonds in your portfolio?

For many, the bull market of the 1990s brought about the demise of asset allocation. Many investors flocking to reap historic stock market returns lacked diversification in their portfolios as well as in their stock holdings, placing all their eggs in the high-flying, high-tech basket.

In 1990, the beginning of an unprecedented 10-year market climb, the average investor held 21% of his or her total financial assets in equities.

By the end of 1999, 49% of those financial assets were invested in equities.

Unfortunately for many, this record high level of equity ownership occurred just as a major correction in the equity markets was taking shape. Most notably, the Nasdaq Composite fell from its record high of 5048 on March 10, 2000 to a low of 1229 on July 23, 2002.

This lack of diversification—combined with the end of the bull market—significantly reduced the value of many portfolios.

In 1999, the value of total U.S. household equity holdings was $17.3 trillion. This value dropped 25% to $12.9 trillion in 2001, with further declines continuing through most of 2002. This “reverse equity wealth effect” has forced investors to rethink their investment strategies.

The lesson learned from this scenario is that, while stocks as an asset class can provide important long-term growth in a portfolio, they are subject to volatility. And with the average S&P 500 stock dividend yielding only 1.62% (as of 6/28/02), investors must look elsewhere for income.

This has led many to turn to bonds, perhaps for the first time, as a way to reduce exposure to the uncertainties of the equity market, and cushion their portfolios in a down market through diversification.