I am very confused because I thought if interest rates go up, that means bonds now become valuable? What makes a bonds index fund like BND go down? Arent bonds just loans against the government or corporations? Shouldnt that be a good thing all the time? Shouldnt a ticker like BND always be green?? I am so confused!! Thank you in advance for reading and answering my stupid question lol
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New bonds become less valuable since they will be issued with the lower rate. Older bonds are locked in at whatever rate they were issued with so they are now more attractive compared to the new bonds with the lower rate. Thus the older bonds prices go up
Bond funds are backed by a mix of bonds at different maturity times. As the bonds within the fund mature new ones are bought. The fund price will reflect the price of the underlying bonds. If rates go up, the existing bonds in the fund will be less valuable so the fund will go down.
If someone offered you two bonds, one issued yesterday for 5% and one issued today at 4%, but the purchase price was the same, which one would you pick? One is obviously more valuable than the other one.
Think about it like this:
I give you $95 and you give me a sheet of paper that says “On April 17, 2024, I will give you $100.” That means that, implicitly, you’re paying about 5.3% on the $95 (95 * 1.053 = 100) Now, interest rates go down to, say, 3%. I can now sell that sheet of paper for a little over $97. (because 97 * 1.03 = 100)
But, let’s say interest rates went to 8%. NOW, that sheet of paper is only worth about $92.60. (92.60 * 1.08 = 100) So, I’ve lost money.
A decrease in interest rates makes the value of bonds that have already been issued (with a higher interest rate) increase in value.
If I buy a 10 year bond at 10% and then interest rates drop to 5%, I can sell my bond to someone else for more than the government does because in 10 years my bond will be worth more than a new bond issued at 5%
By selling it early, I get an instant return on my investment, and the buyer gets a better return on investment than they could get from the government.
You also need to consider how long the bonds have left until they mature as well as what other interest rates are available, for the particular price you should pay for a particular bond. It’s a bit complex for an ELI5
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