Young & Invested: Is it time to rotate into bonds?
Turbulent times reignite interest in defensive assets but investors may sabotage their future.
Mentioned: iShares Core Composite Bond ETF (IAF)
Welcome to my column, Young & Invested, where I discuss personal finance and investing for Gen Z and Millennials.
This column aims to be a resource for young investors navigating an ever changing financial, political and social landscape as they try to build wealth. Tune in every Thursday for the latest edition.
Edition 45
Welcome to the final edition of Young & Invested for 2025.
I wanted to turn my attention to something interesting to end the year with a bang, but instead I chose bonds. Nothing says festive quite like discussing fixed income at Christmas lunch.
It suddenly feels like everyone’s talking about the once unloved asset class – although that may be because I reside on the most boring part of the internet.
Every second headline appears to be a fund manager talking about fixed income, which barely registers for most young investors. Of course, bond ETFs are popping up in more portfolios, and flows into fixed income have been rising. But you’d be hard pressed to find an ETF category that hasn’t grown over the past few years.
Unsurprisingly, this renewed interest isn’t coming out of nowhere. Yields across global markets have climbed to levels we haven’t consistently seen in over a decade, and the market has rediscovered its enthusiasm for an asset class long dismissed as dull. At the same time, the global yield curve has steepened to its highest point since the Covid-19 pandemic, highlighting stronger incentives for investors to lock in long-term bonds rather than shorter bonds that are closer to savings account rates.
Much of this disinterest has been understandable for most. Extended periods of disappointing yields and the media’s emphasis on equity markets have contributed to this perception. Bonds have also been one of the most overlooked corners of the ASX for retail investors. Historically, high minimums, limited access, and a relatively narrow set of products on offer formed considerable barriers to entry. But now ETFs have changed the game, and prices have fallen so low many believe the situation presents an opportunity.
With equity markets sitting near all-time highs and uncertainty lingering in the global macro backdrop, it’s fair to ask the question. But when individuals loudly proclaim that now is the ‘best time’ to buy a product, it’s worth considering who benefits from trying to convince you of that.
Before we go further, it’s important to note that the fixed income universe is enormous, complex and far less transparent than equities. This column won’t cover every corner of the bond market but hopefully it should provide you some insight. If you’re looking for a general overview or brief explainer, here is a good place to start.
The role of bonds and a defensive allocation
For decades, the traditional 60/40 portfolio was held as the gold standard for diversification, delivering stronger risk adjusted returns than more extreme allocations to equities. Whilst shares are intended for growth, bonds are to cushion the blow if and when markets fall. In other words, they’re a risk mitigator and your exposure will vary based on individual circumstances. But that fixed 40% bond weighting has been questioned, especially by investors who favour more growth heavy portfolios.
Australian investors are arguably starting from a different place all together. Surveys consistently show that we allocate far more to equities than fixed income when compared to other investors in developed markets. High barriers to entry, dividend culture and superannuation default allocations have kept retail investors relatively ‘underweight’ bonds.
What is happening to bonds right now?
Bonds are back in the spotlight for a multitude of reasons, but yield is often key. As mentioned above, some yields are sitting at levels we haven’t seen in over a decade. Our own 10-year government bond yields are near two-year highs.
Data as of 12 December 2025. CNBC chart.
For new buyers, this signals a dramatic shift from the ultra-low rate years that have made fixed income feel irrelevant to many. If you’re holding cash out of market crash fear (which I don’t recommend you do), you’re unlikely to get ahead. Now may seem like a compelling time to explore fixed income given the RBA has cut rates several times this year and may continue to do so which incentivises locking in bonds at high yields.
Equity market volatility has also renewed attention to defensive assets. The November US tech selloff reminded investors that there’s basis to the bubble talk, although the extent of correction is certainly up for discussion.
Despite expectations for ongoing rate cuts from the US Federal Reserve, long term yields have been rising, creating an unusual situation. Many attribute this to long-term concern over inflation, surging government borrowing and uncertainty around future fiscal policy. When markets anticipate higher inflation or larger deficits, they typically demand a higher ‘risk premium’ to compensate for long-dated bonds.
The role of bonds in my own portfolio
Bonds have become more accessible thanks to digital platforms and fixed income ETFs. They’re no longer buried in jargon and for newer investors who can’t stomach the swings of popular allocations to equities or even crypto, bonds may provide the stability they need.
I’ve reached the point in my investing journey where I don’t need that ballast, so I hold an all growth portfolio, meaning I’m 100% allocated to equities. That decision comes from understanding my goals, investment horizon and philosophy on risk. I also think the utility of a significant defensive allocation is questionable for most younger investors who have established an emergency fund.
Bonds are traditionally considered the ballast of a portfolio, reducing volatility, generating income and helping investors sleep better at night. But when you have decades of earning potential ahead of you, I don’t think that stability is always necessary. My primary objective is to maximise long-term returns with prioritised exposure to growth assets that do so at the expense of short-term volatility.
Historically, equities have delivered higher returns than bonds although with more volatility (as measured by standard deviation*). The figure below from Vanguard shows that Aussie shares have delivered 9.1% annually over the past decade compared to just 2.3% for bonds. That difference is enough to make a significant impact on the value of your future long-term portfolio depending on your weightings.
Aussie equities (as represented by VAS ETF) came with a standard deviation of around 13.5 vs 4.4 for bonds (represented by IAF ETF) over this period. Essentially, the greater the volatility, the bumpier the returns ride. But for me, the risk of not meeting my long-term goals outweighs the discomfort of this additional volatility. My main concern is the average return I receive, rather than the dispersion around it.
I’m also not convinced by diversification for diversifications sake. One of the strongest arguments for holding bonds has been their historically low correlation with equities. But since 2021, the two asset classes have often moved in tandem.
Source: JP Morgan. August 2025.
I recognise that spotlighting a select moment is not enough to subvert the entire argument. But if this continues to occur, the ‘eggs in different baskets’ analogy loses much of its meaning. For me, diversification comes from spreading investments across broad index ETFs, with exposure to multiple companies, sectors, and geographies. That provides enough risk management without sacrificing returns by allocating to bonds.
This is not to negate the role of fixed income in retail portfolios. Asset allocation is highly personal and an all-equities portfolio isn’t for everyone. Retirees or those approaching retirement may consider bonds to be critical in managing risk and providing reliable income. Even for younger investors with shorter time horizons or lower risk tolerance, bonds might also make sense.
Is it really a great time to invest in bonds?
The ideal backdrop for strong bond returns is surprisingly simple. It involves falling interest rates, low and stable inflation and an economy that avoids defaults or credit shocks. It’s the textbook best-case scenario for fixed income investors. But I’m not sure we’re seeing that mix occurring today. Inflation has eased from its peak but remains sticky with the RBA recently deciding to hold rates steady. Potential credit risks are also creeping higher with refinancing costs rising, which presents the opposite environment bond enthusiastic hope for.
It’s also worth acknowledging the behavioural side of markets. Every part of the investment industry tends to see the world through the lens of what they’re selling. Value managers see imminent turnarounds and growth managers see endless growth. Bond managers naturally lean toward scenarios that make everyone else nervous. That doesn’t make them wrong, but investors should be aware of the incentives behind the narratives they hear.
I’m no bond expert by any means, but the current environment is certainly more complicated than the ‘perfect’ moment for bonds. Yields are high and rate cuts are underway but broader conditions that typically help bonds don’t appear to be in fruition yet.
Morningstar’s take on the current bond environment
Our investment team’s view is that overall bond valuations are broadly fair, with higher yields improving expected returns and the defensive role of fixed income. Although bonds remain less volatile than equities, inflation surprises continue to pose a key risk, contributing to recent negative returns with inflation rising to 3.8% in October 2025.
The key issue right now isn’t bonds as a whole but credit risk specifically. Credit spreads are tight right now, meaning investors aren’t being adequately compensated for taking on additional credit exposure or default risk. We see more attractive opportunities in areas such as emerging market debt.
Overall, we remain neutral at the total bond exposure level, but within defensive assets we prefer Australian fixed interest over international fixed interest.
Concluding thoughts
There are a few moving parts here but ultimately two questions at play: do bonds deserve a place in your portfolio at all, and if so, is now the right moment?
Sorting through the noise isn’t easy, especially when all headlines seem to point in wonky directions. I think the decision ultimately comes back to your investment goals, horizon and risk tolerance. I’m confident that for some, bonds may provide the stability that equities alone can’t but for others with longer time horizons or a strong stomach for volatility, a heavy equities allocation may still feel appropriate. There’s no universal answer, but there is value in understanding why they’re back in the conversation.
