“Interest rate changes are among the most significant factors affecting bond return.”

When it comes to how interest rates affect bond prices, there are three cardinal rules.

1. When interest rates rise–bond prices generally fall.
2. When interest rates fall–bond prices generally rise.
3. Every bond carries interest rate risk.

This article describes how each of the “3 cardinal rules” described above affects a bond investment.  It also explains the role the Federal Reserve plays in determining interest rates in the economy.  Specifically it describes the federal funds rate, the discount rate, and basis points for bond investments.

Finally, this article provides information on where to find economic indicators that measure not only changes in interest rates but also other economic indicators for the nation’s economy.

For more information, click here. 

Teaching Suggestions

You may want to use the information in this blog post and the original article to

• Review why investors choose bonds for their investment portfolio.
• Explain how the three cardinal rules described in this article affect a bond’s value.

Discussion Questions

1. Assume you are 35 years old, married, and earn $85,000 a year. In what circumstances would bonds be a good choice for your investment portfolio?  In what circumstances would bonds be a poor choice?
2. What happens to a bond’s price if interest rates in the economy increase? If interest rates in the economy decrease?
3. In addition to interest rates, what other factors that could affect the value of a bond?