Explain how a bond ladder is built, what it offers and where it falls short, and describe its risk and return profile
The idea
A ladder spreads money roughly evenly across maturities, say one to ten years, and as each rung matures the proceeds are reinvested at the longest rung. This diversifies reinvestment and interest rate risk over time, provides regular liquidity from maturing bonds, and gives more convexity than a bullet of equal duration. The portfolio's return tends toward an average of rates across the cycle, and its duration sits near the middle of the range. Limitations: it does not match any specific liability, callable or amortising bonds can distort the rungs, and in a steep curve it gives up yield compared with holding only long bonds. A trap is assuming a ladder removes interest rate risk; it only spreads it.
In the app: 2 practice questions on this outcome, a narrated walkthrough with diagrams, spaced review that brings it back before you forget it.
Take the free diagnostic →More in Overview of Fixed-Income Portfolio Management
- Explain why portfolios hold fixed income and the ways fixed-income mandates can be categorised
- Set out the measures used to gauge risk and return in a bond portfolio and how bonds co-move with other assets
- Explain how liquidity varies across the bond market and its sub-sectors, and discuss how it affects the running of a bond portfolio
- Break down and interpret a model that decomposes the return on a bond portfolio
- Discuss why bond managers use leverage, the instruments that create it, and the dangers it brings
- Contrast how bond portfolios are run for investors who pay tax and for those who do not
- Explain the approach known as liability-driven investing
- Explain how cash flow matching is used to fund a set of liabilities