Why many advisors caution against bonds today
A common question this year is whether it is a bad time to buy bonds. The concern is understandable. Price swings in long bonds have been uncomfortable, and many commentators warn of more to come if rates stay choppy. The more useful question is whether bonds deserve a permanent spot in your plan, and if so, which kinds, where to hold them, and in what proportion to stocks. Your answers should reflect your time horizon, cash flow needs, and taxes, not a single headline.
What bonds delivered in the 1990s
There was a period when bonds were unusually attractive. In the 1990s, as Canada emerged from the inflation shock of the 1970s and 1980s, yields stayed high even after inflation cooled. Investors could buy high quality strip bonds in registered accounts and lock in returns that, before tax, were not far from long run stock returns. That was the Golden Age of bond investing because the starting yield was generous and the path of inflation was improving. Those conditions do not persist for decades. They were the residue of a policy fight that had already beaten back inflation, similar to finishing the medication after the fever breaks.
Volatility and safety are not the same
It helps to separate two ideas that often get blurred. Volatility describes how sharply prices move around in the short term. Safety concerns the risk of a permanent loss that you never recover from. Stocks are more volatile than bonds, especially over months and quarters. Yet the long run odds favour patient owners of high quality companies that grow earnings and dividends. A stock can go to zero, but that outcome is rare if you insist on quality, cash generation, and sensible valuation. Bonds can also fail through default. More often, their risk shows up in a different way. Since a bond’s return is largely the yield you lock in on day one, the upside is capped. If inflation erodes purchasing power faster than the coupon compensates, you can lose ground in real terms even if the issuer never misses a payment.
How inflation hits bonds versus stocks
Inflation reduces the real value of fixed payments that bonds deliver. Companies have tools to fight back. They can pass some cost increases to customers, find efficiencies, and invest in productivity. That is not a free pass. High and sticky inflation can compress margins and hurt multiples. Still, the key difference remains. Businesses are adaptive systems, while bonds are contracts. In a world where inflation risk never fully disappears, adaptability has value.
The real cost of lower portfolio volatility
Mixing bonds and stocks typically lowers the zigzag in your account value. For many investors, that calm is worth something. The tradeoff is that expected long term returns usually fall when you swap equity risk for bond income. There is nothing wrong with paying for peace of mind, but it is a cost. For Canadians with long horizons and secure employment, leaning toward a higher equity mix may be sensible. For retirees drawing steady income, some bond exposure or a GIC ladder can steady withdrawals and help manage sequence risk. The key is to choose the level of steadiness you truly need, not the level that a tense week on television pushes you toward.
Conflicts that can creep into bond advice
How you pay for advice can influence the guidance you receive. A fee based model that charges a percentage of assets tries to align your interests with the advisor’s. Commission based models that earn more when you buy and sell can encourage activity. In fixed income, markups and inventory based trading create more room for conflicts because dealers may act as principals and set their own prices. None of this means bonds are bad and stocks are good. It means you should understand incentives around any recommendation to rotate heavily into bonds or to trade them frequently.
Trading and rebalancing can cut returns
You will hear that systematic rebalancing between bonds and stocks reduces volatility. That is true. It does not magically raise expected returns. In practice, frequent bond trading adds spreads and commissions that eat into performance, and those costs are often higher in bonds than in stocks. Rebalancing once or twice a year, with wide tolerance bands, can deliver most of the risk control without turning your portfolio into a fee machine. Be wary of strategies that promise smoother lines through constant tinkering. Smoothness can be expensive.
What to do when inflation headlines surge
It is tempting to make big moves when inflation stories dominate the news. The problem is that trends in inflation and interest rates are hard to predict with any consistency. Investors have been surprised both ways over the past few years. A sensible response is to control the levers you can actually pull. Keep your time horizon in view. Build a cash reserve to cover near term spending so you are not forced to sell stocks at a bad time. If you want ballast, favour shorter duration bonds or cash like instruments that are less sensitive to rate moves. Avoid reaching far out on the yield curve unless the extra compensation is clearly worth the risk.
A practical allocation for Canadians today
For growth over decades, a core of high quality Canadian and global stocks is a strong foundation. Focus on companies with resilient balance sheets, recurring revenue, and the habit of raising dividends through cycles. For stability, use a modest sleeve of short term government bonds, investment grade corporate bonds, or a staggered GIC ladder. This mix accepts that stocks will be jumpy, while the income sleeve provides psychological calm and a source of dry powder when markets stumble.
If you are retired, match two to three years of expected withdrawals with cash, high interest savings ETFs, short T bills, or near term GICs. This spending runway reduces the odds that a temporary market drop forces you to sell quality equities at low prices. Refill the runway during stronger markets. If you are still building wealth, concentrate on maximizing contributions, keeping costs low, and staying invested through noise.
Implementation tips for TFSAs, RRSPs, and taxable accounts
In Canada, interest from bonds and GICs is fully taxed at your marginal rate in a non registered account. That makes registered accounts the natural home for fixed income. Prioritizing bonds and GICs in an RRSP or TFSA shields the interest from tax while you hold them. Canadian dividend paying stocks can be tax efficient in a taxable account because of the dividend tax credit, provided you are mindful of concentration risk. U.S. dividend stocks are often best in an RRSP, since the tax treaty can eliminate withholding on dividends in that account type. TFSAs do not enjoy that treaty relief, so withholding generally applies and cannot be recovered. When you convert currency to buy U.S. securities, consider using Norbert’s gambit to reduce conversion costs rather than accepting retail spreads.
Practical details matter. If you hold bonds, check duration. Shorter duration reduces sensitivity to rate changes. If you buy bond ETFs, look at management fees, average maturity, credit quality, and how the fund handles premiums and discounts to net asset value. With GICs, compare issuer rates, CDIC coverage, and liquidity terms. Build ladders that mature at regular intervals so you are not stuck with one big renewal at an awkward time.
Investor takeaways for the long run
Start by clarifying the purpose of each account. If the goal is long term growth, keep a healthy allocation to stocks and accept normal volatility. If the goal is steadier income, add short duration fixed income or a GIC ladder, and keep your stock exposure focused on durable dividend growers.
Place assets where taxes are kindest. Interest from bonds and GICs is usually best sheltered inside an RRSP or TFSA. Canadian dividend payers can be tax efficient in a taxable account if you avoid overconcentration. U.S. dividend stocks often fit well in an RRSP, where the treaty can eliminate withholding. In a TFSA the withholding generally applies and cannot be reclaimed. When buying U.S. securities, consider lower cost currency conversion methods such as Norbert’s gambit.
Rebalance deliberately, not constantly. Use wide tolerance bands and review on a set schedule so costs and taxes do not erode results. Frequent bond trading can add spreads and commissions that are higher than many investors realize.
Match near term spending with safe assets. Retirees can hold two to three years of planned withdrawals in cash, high interest savings ETFs, T bills, or near term GICs, then refill during stronger markets. Builders of wealth can focus on steady contributions, broad diversification, and low fees.
Keep risk where you are paid for it. Check bond duration and credit quality. If you use bond ETFs, review fees, average maturity, and how closely they track net asset value. With GICs, compare issuer rates, CDIC coverage, and early redemption terms. Stagger maturities to avoid a single large renewal at an awkward time.
Most importantly, avoid overhauling your plan based on a single headline or forecast. Trends in inflation and interest rates are hard to predict with consistency. Owning quality businesses, controlling costs and taxes, and staying invested through noise are habits that compound in your favour over time.
