I sometimes hear from people who want to invest in bonds, but aren't sure if they should jump in now or wait for interest rates to rise. Unfortunately, it's extremely difficult to predict when interest rates will rise or fall, and staying on the sidelines can mean you miss the benefit of current yields. That's where a bond ladder can help.
A bond ladder is a portfolio of individual bonds that mature on different dates.
For example, you might be able to build a ten year bond ladder with a bond maturing every year. As the bonds at the lower end of the ladder mature, the proceeds can be reinvested at the long end, in new long-term bonds.
If interest rates have risen, you'll be able to take advantage of higher yields relatively quickly.
And if rates have fallen, you'll still have higher-yielding bonds in your ladder.
This can help smooth out the effects of market volatility on your portfolio.
You can also use a bond ladder to help manage cash flows.
Because many bonds pay interest twice a year, on dates that generally coincide with their maturity date, investors can structure monthly bond income by creating a ladder with a mix of short- and long-term bonds that generate income every month.
It would take a large portfolio to meet all of an investor's income needs with a bond ladder alone. But over time, a bond ladder can help ensure that your eggs aren't all in one basket, and can help you manage in a changing interest rate environment.