The question
"Bond funds pay steady income, so they're safe, right? Why did my bond fund lose money this year?"
The idea
- A bond is a loan that pays fixed interest. When interest rates rise, new bonds pay more, so older bonds paying less are worth less. Bond prices fall when rates rise, and rise when rates fall.
- How much a fund's price moves is measured by duration, in years. A 1-point rise in rates cuts the price by about the duration, in percent. A fund with a duration of 7 years drops about 7%. Longer loans mean a longer duration and bigger swings, in both directions.
- Income softens the blow. ETFIQ's rate cushion divides a year of income by duration. It answers one question: how far can rates rise in a year before that year's income is gone?
Worked example
Three iShares Treasury funds: same borrower, the US government, different loan lengths.
| SHY (1 to 3 years) | IEF (7 to 10 years) | TLT (20+ years) | |
|---|---|---|---|
| Duration | 1.81 years | 6.83 years | 14.90 years |
| A year of income (yield) | 3.60% | 4.06% | 4.77% |
| Rate cushion | 1.99 points | 0.59 points | 0.32 points |
Durations are the issuer's, read Nov 9, 2026. Income is the year to Nov 10, 2026.
Step 1. What a 1-point rise does to $10,000 in TLT: $10,000 × 14.90% = about $1,490 off the price.
Step 2. A year of TLT's income: $10,000 × 4.77% = $477, about a third of that fall.
Step 3. The cushion: 4.77 ÷ 14.90 = 0.32 points. If rates rise by more than about a third of a point in a year, TLT's price fall eats the whole year's income.
Step 4. SHY: 3.60 ÷ 1.81 = 1.99 points. Rates would need to rise almost 2 points before SHY's year of income was gone.
What actually happened. Over the year to Nov 10, 2026, all three prices fell, roughly in step with duration:
- SHY: price −1.8%, total return +1.8%
- IEF: price −5.7%, total return −1.9%
- TLT: price −9.7%, total return −5.4%
Only SHY's income outran its price fall. Then, in the month to Nov 10, 2026, the moves flipped: TLT +4.2%, IEF +2.1%, SHY +0.5%. Duration works both ways.
The common mistake
"A higher yield means more income, so it's the better bond fund." TLT's yield was the highest of the three, and it returned the least over the year. A higher yield often comes with a longer duration, which means a smaller cushion.
The second mistake is comparing scores across sets. ETFIQ's IQ Bonds Score ranks a fund's rate cushion only against similar funds, and 100 is best. TLT scored 36.7 among 15 long government funds; IEF scored 8.3 among 24 intermediate ones. Each score says only where a fund ranks in its own set. It does not say which fund's cushion is bigger: compare the cushions themselves.
Check your understanding
Pick an answer to see why. Two of three right passes the lesson.
1. A bond fund has a duration of 6 years. Rates rise 1 point. About what happens to its price?Answer: C. It falls about 6%. price moves about duration × the change, opposite to rates. Not B: that ignores duration; 1% is the rate change, not the price change.2. A fund has a year of income of 4.2% and a duration of 6 years. What is its rate cushion?Answer: A. 0.7 points. 4.2 ÷ 6 = 0.7, so a rise of more than 0.7 points in a year wipes out its income. Not D: the cushion divides, it doesn't add.3. On the IQ Bonds Score, Fund L (long duration) scores 40 and Fund S (short duration) scores 30. What can you say?Answer: D. Each is ranked only against funds like it, so the scores don't compare the two directly. each score is a percentile inside its own set. Not A: TLT outscored IEF while holding about half IEF's cushion.
Takeaways
- Duration tells you the price move: about duration percent for each point rates change.
- Divide a year of income by duration to see how big a rate rise it can absorb.
- Compare bond scores only within the same set.