Conventional wisdom dictates that every portfolio should include a certain amount of bonds ‘for safety’.

According to Vanguard, the historical average annual return of a 100% bond portfolio is 5.5%. Whereas the historical average annual return of a 100% stock portfolio is 10.2%. Any ‘average’ portfolio with a mixture of stocks and bonds will produce an annual return somewhere between the two. If you are investing for the long-term one would ask the question, ‘Why should I hamstring my returns by adding bonds to the portfolio?’

Bonds appear safe because they offer a fixed rate of return, together with the assumption that the capital value of a bond is assured. But as interest rates vary, so does the capital value of bonds. Any notion of capital protection is illusory.

Referring to Bonds in his 2012 letter to shareholders Warren Buffett said, ‘They are among the most dangerous of assets. Over the past century these instruments have destroyed the purchasing power of investors in many countries, even as these holders continued to receive timely payments of interest and principal’.

Bonds may not be as volatile as stocks, but they are not immune to fluctuation in their capital value. The rate of return is poor in comparison to stocks. Often, there are periods when the return on bonds is insufficient even to match inflation.

Very few successful investors hold bonds in their portfolio. The clear implication is that to make superior investment returns, bonds should be avoided.

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