Investors are told that while bond market returns have historically been roughly half the gains recorded in equity markets1, it is prudent to maintain exposure to these safe, income-generating assets because they serve as a ballast to portfolios in more turbulent times.
Unsurprisingly, these same investors were thrown for a loop in 2022. Equity markets spasmed amidst geopolitical stress, which put upward pressure on commodity prices and inflation, leading global central banks to raise interest rates. As a result, the bonds they held for safety also plunged in value, compounding rather than mitigating the weakness in balanced portfolios.
As we are again in an environment in which geopolitical stress has put upward pressure on commodity prices, resulting in inflationary pressures and leading global central banks to either raise interest rates (Europe and Japan) or increase expectations that hikes are imminent (Canada and the U.S.), it is reasonable for investors to wonder if they may be better (or not worse) off by avoiding bonds entirely and maintaining their exposures to equities with their potential for better performance.
For starters, it is important to note how anomalous 2022 was for financial markets. Available data covering the last five decades shows that 2022’s 12.5% decline in the Bloomberg U.S. Treasury Index (a gauge of returns for U.S. government bonds which are traditionally viewed as “risk-free”) was almost four times larger than the next biggest decline for this benchmark on record (-3.6% in 2009).
It was the first (and to date only) time in which both bonds and equities declined in the same year. In the other six instances in which U.S. government bonds were down (and that includes year-to-July this year), equity markets were up, returning an average of 19% (median +24%). Conversely, in the nine other years since 1973 in which stocks declined, bonds have increased, returning an average of 6% (median +8%), meaning that they played their expected role to mute overall portfolio declines.
A historical anomaly
(calendar year total returns in percent; U.S. dollar basis)
Now, while this emphasizes how rare the performance of 2022 has been in history, it also shows that it is possible. With that in mind, while several conditions are similar, it is important to note that — as painful as it is for students of economic history to say — this time is actually different.
The main reason for the difference between now and four years ago is the level of yields. At the beginning of 2022, yields on U.S. government bonds were less than 2% across all maturities, with short-term rates effectively at zero, reflecting policy rates at that time.
Well off the bottom
(U.S. Treasury security yield by maturity; U.S. dollar basis)
Those negligible interest payments to bondholders were nowhere near sufficient to offset the impact of falling bond prices as yields. In the U.S., policy rates climbed from 0% to more than 4% as the central bank rushed to quash rapidly accelerating inflation. Because bond prices and yields move inversely, rising rates translated into significant capital losses, particularly for longer-dated bonds, which are more sensitive to changes in interest rates.
While the pace of rate increases in some previous periods was less dramatic, the starting level of yields often played a crucial role in determining bond returns. Annual bond market declines in 2021, 2013, and 2009 occurred despite relatively modest increases in rates because yields started from exceptionally low levels (0.92%, 1.76% and 2.21%, respectively). By contrast, the bond losses in 1999 and 1994 were largely driven by the magnitude of the rate increases themselves, with yields rising +179bps and +203bps, respectively.
In general, higher starting yields provide a greater cushion against rising interest rates. When yields begin at near zero, even modest rate increases can generate negative total returns because there is little income to offset price declines.
Cushion for the pushin’
(change in yield required to offset 12-month interest payments on a 10-year bond*)
Which brings us to today. As it stands, market rates are currently at levels not seen in more than a decade, providing a meaningful cushion against further rate increases. As a result, bonds appear better positioned to provide downside protection for balanced portfolios.
And with respect to rate increases, while markets are currently pricing in the prospect of central bank hikes, the scope for hikes is substantially smaller now than back in 2022. Policy rates are no longer on the “accommodative” side of the dial. In Canada, rates are within the Bank of Canada’s estimated range for “neutral”, while in the U.S. they remain in restrictive territory. As a result, the potential for materially higher rates from current levels appears relatively constrained.
Furthermore, should a shock arise that knocks economic momentum off course, and equity markets with it, the adjustment for market yields would likely be downward rather than upward. In such a scenario, expectations for rate hikes would diminish, while the likelihood of rate cuts would increase as policymakers respond to weakening conditions. Falling yields would support bond prices, allowing them to resume their traditional role as a source of diversification and portfolio insurance.
1 Bloomberg U.S. Treasury Bond Index annualized total return is 4.8% over the last 40 years, compared to +10.7% for the MSCI US Index
Guardian Partners Inc. (“GPI”) is providing, with permission, this market commentary, which was co-authored by Guardian Capital LP (“GCLP”) and GPI. GCLP is an affiliate of GPI, and is both a sub-advisor to certain GPI accounts and the Advisor and Fund Manager to the GCLP investment funds offered to GPI clients.
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Published: August 5, 2026