During January 2013, interest rates experienced a small increase. As a result, recently, on February 14, 2013, the Financial Industry Regulatory Authority, Inc. (“FINRA”) posted an investor alert which warned investors that in the event of rising interest rates, “outstanding bonds, particularly those with a low interest rate and high duration may experience significant price drops.” Many investors are unaware of the inverse relationship between bonds and interest rates – as interest rates rise, bond prices fall. In an effort to educate bond investors, FINRA alerted investors to the importance of a bonds duration, and stated, as “duration signals how much the price of your bond investment is likely to fluctuate where there is an up or down movement in interest rates. The higher the duration number, the more sensitive your bond investment will be to changes in interest rates.” Similarly, FINRA warned of the impact duration has on bond funds. Indeed, FINRA provided the example of “a bond fund with 10-year duration will decrease in value by 10 percent if interest rates rise one present. On the other hand, the bond fund will increase in value by 10 percent if interest rates fall one percent.” Therefore, FINRA concluded, that if investors held long-term bonds or bond funds with primarily long-term bonds, the value of those investments is expected to decline, in many instances, significantly, when interest rates continue to rise. Investors should be aware of the potential risks of bond and bond fund investments in the event that interest rates continue to rise, as expected.
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