Bond Ladders: A Compelling Solution for Investors

What is a bond ladder? 

A bond ladder is a manner of investing in a combination of fixed income securities whereby the securities held in the portfolio are structured by sequential maturity dates. The portfolio is created so that maturity dates of the bonds are staggered—occurring at different intervals over time, which creates the bond ladder. They may be designed in multiple ways, such as a 1- to 5-year or 1- to-10-year ladder, depending on investor goals.

How do bond ladders work?

As each bond in the ladder matures, the principal proceeds from the maturity are then reinvested in the longest-term bond in the ladder. As the bonds mature or “roll off,” proceeds are used to buy new bonds at the top of the ladder, thereby keeping the structure of the ladder consistent over time.

What are the benefits of bond ladders?

Bond ladders can be an appealing option for many investors and for multiple reasons.

• Predictable income: Investors seeking a consistent and reliable source of income may chose a bond ladder in an SMA, for instance, to deliver a steady stream of income. Since bonds typically pay coupon payments semi-annually, a ladder can be structured in such a way as to deliver income in relatively consistent intervals. Further, as each bond in the ladder reaches maturity, it generates cash flow, which can be reinvested or withdrawn. The combination of income and convenient access to maturity proceeds can appeal to investors facing specific future financial obligations.
• Enhanced diversification: Rather than holding an individual bond, a bond ladder constructed with multiple bonds can help mitigate credit, interest rate, and reinvestment risk. This can be particularly beneficial during periods of economic uncertainty and interest rate volatility. These diversification benefits also apply at the overall portfolio level, as higher-quality fixed income tends to pair well with more volatile (and higher return potential) asset classes, such as equities, private market investments, and others.
• Increased flexibility: Investors have many options when creating a bond ladder portfolio. Ladders may be customized to target specific segments of the fixed income markets as well as different maturity, yield, and duration profiles. This gives investors more control over the portfolio’s construction and potential outcomes.
• Effective tax management: Owning a portfolio of individual bonds, as opposed to a bond mutual fund or exchange-traded fund, allows for enhanced, ongoing, and proactive tax management at the individual security level, which may lead to greater after-tax performance over time.
• Institutional pricing power: Scale matters when trading fixed income securities. Institutions that have longstanding relationships and the ability to buy and sell in large blocks have significant pricing advantages when compared with retail investors. Investors seeking to invest in a bond ladder portfolio should consider the pricing power capabilities of the provider.

Diversification does not ensure or guarantee better performance and cannot eliminate the risk of investment losses.

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