QUESTION: Bonds: how do Central Bank rates affect bond prices?
Answer
A change in the Central Bank's key rate directly affects the price of bonds already trading on the market. When the regulator raises the rate, new issues of debt securities begin to offer a higher coupon, causing older bonds with fixed and lower coupons to fall in price so that their yield to maturity aligns with the market rate. Conversely, when the key rate falls, the prices of previously issued bonds with high coupons rise as investors strive to lock in high yields for the long term.
When it comes to investing in bonds during periods of monetary policy changes, it is important to maintain investment discipline.
•Avoid extremes such as trying to fully guess the interest rate peak or selling off the portfolio at the first sign of an increase in the key rate.
•Do not inflate expectations for super-fast profits and take the duration of securities into account when forming the portfolio.
•Leave room for life and liquidity without freezing all available cash in long-term bonds.
•Track progress with small checkpoints once a quarter, analyzing coupon income and total portfolio value.
This approach helps calmly endure periods of interest rate volatility and steadily receive passive cash flow from coupons.
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