With interest rates increasing in 2022, many investors are looking to navigate the market and not lose money on bonds. Bond prices typically fall when interest rates rise. One strategy is to buy a bond and hold it to maturity. Another approach is bond laddering. Bond laddering is the practice of buying bonds that mature in consecutive calendar years, and then reinvesting proceeds from bond maturities into new bonds that extend out the ladder.
For example, instead of buying a single five-year bond and holding it to maturity, consider building a five-year ladder with bonds that mature each December for the next five years. When one bond matures, a new five-year bond is purchased with the proceeds (see illustration). Bond laddering potentially provides investors with stable cash flow. Each year, new money from a maturing bond and the semi-annual coupon payments from the bond can be reinvested.
The ability to manage exposures on a yearly basis can be especially beneficial in a rising rate environment. As interest rates change, each bond in the ladder should have a similar total return as the average yield at time of purchase. By locking in a yield at the beginning, the ladder may help insulate the bond buyer from price losses if the investor holds to maturity.