Personal Finance (5): Bonds and Fixed Income — The Stable Half of Your Portfolio

Everyone says “put some money in bonds.” Every asset allocation pie chart has a calm blue slice labeled “fixed income.” And for years I nodded along, put some money in a bond fund, and moved on without understanding what I’d actually bought. Then one November morning in 2022, I opened my portfolio and saw my “safe” bond fund down 2.5% in a single week. That didn’t feel safe at all.

So I sat down and spent three hours reading about bonds — what they are, why they move, and why the supposedly boring half of a portfolio can occasionally slap you in the face. This article is what I wish someone had handed me before I put a single yuan into fixed income.

You are the bank now#

A bond is, at its core, an IOU. When you buy a bond, you are lending money to someone — a government, a local authority, a corporation — and they promise to pay you interest periodically (the coupon) and return your principal at a specific future date (the maturity).

Here’s the analogy that made it click for me: imagine you own an apartment and rent it out. You collect rent every month, and at the end of the lease the tenant moves out and the apartment is still yours. A bond works the same way, except instead of lending a physical space, you’re lending money. The coupon is the rent. The principal is the apartment. The borrower is the tenant. And just like a real apartment, the “value” of this arrangement can change — even though your tenant still pays the same rent.

When you buy stocks, you become a part-owner of a company. When you buy bonds, you become a creditor. You don’t share in the upside if the company triples in value, but you get paid before shareholders if things go south. Different seat at the same table: stocks sit in the equity section, bonds sit in the debt section, and historically, they don’t always move in the same direction. That’s why people hold both.

Four concepts that confused me (until they didn’t)#

Yield: what you actually earn#

Yield is to bonds what rental yield is to real estate. If you buy an apartment for 1 million yuan and collect 40,000 yuan in annual rent, your rental yield is 4%. Bonds work the same way, but with a wrinkle: the “price” of a bond changes after it’s issued, so there are multiple ways to measure yield.

Coupon rate is the fixed interest rate stated on the bond. A bond with a face value of 100 yuan and a 3% coupon pays 3 yuan per year. This never changes.

Current yield is the coupon divided by the current market price. If that same bond is now trading at 95 yuan, the current yield is 3/95 = 3.16%. You’re getting the same 3 yuan of income, but you paid less for it, so your effective yield is higher.

Yield to maturity (YTM) is the total annualized return if you hold the bond until it matures, accounting for coupon payments, the price you paid, and the fact that you’ll get 100 yuan back at maturity even if you paid 95. This is the number professionals care about most. Think of it as the “all-in” rental yield that also accounts for whether you bought the apartment at a discount or a premium.

For most retail investors, YTM is the number to compare. When you see “10-year government bond yield at 2.3%,” that’s the YTM.

Duration: the length of the lever#

Duration measures how sensitive a bond’s price is to changes in interest rates. The analogy that helped me: think of a seesaw (a lever on a fulcrum). Duration is how long the lever is. A bond with a 2-year duration is a short lever — when interest rates move, the bond price shifts a little. A bond with a 10-year duration is a long lever — the same interest rate move causes a much bigger price swing.

More precisely, duration tells you the approximate percentage change in price for a 1% change in yield. A bond with a duration of 7 will drop about 7% in price if yields rise by 1 percentage point, and rise about 7% if yields fall by 1 percentage point.

Why does this matter? Because when you buy a bond fund, the fund’s average duration tells you how bumpy the ride will be. A short-duration fund (duration 1-2 years) barely moves. A long-duration fund (duration 7-10 years) can swing 5-10% in a year if rates move significantly. Same asset class, very different experiences.

A related concept: modified duration adjusts for the compounding frequency, and effective duration handles bonds with embedded options (like callable bonds). For now, just remember: longer duration = more interest rate sensitivity = bigger swings.

Credit risk: will they pay you back?#

Not all borrowers are created equal. When you lend money to the Chinese central government, the chance of not getting paid back is essentially zero — the government can raise taxes or print money. When you lend to a small corporation, there’s a real chance the company goes bankrupt and can’t pay you.

This is credit risk, and it’s measured by credit ratings. Rating agencies (in China: China Chengxin, China Lianhe, Dagong; internationally: Moody’s, S&P, Fitch) assign letter grades:

• AAA: Highest quality. Government bonds and the best corporations.
• AA: Very strong. Most large, stable companies.
• A: Strong but more susceptible to economic changes.
• BBB: Adequate. The dividing line between “investment grade” and “junk.”
• Below BBB: Speculative. Higher yield to compensate for higher risk of default.

The relationship is straightforward: lower credit quality = higher yield. The market demands compensation for taking on more risk. A AAA-rated government bond might yield 2.3%, while a AA-rated corporate bond yields 3.5%, and a BBB-rated one yields 5%. That extra yield is the credit spread — the premium you earn for accepting the possibility that the borrower doesn’t pay.

The seesaw: when rates go up, prices go down#

This is the single most counterintuitive thing about bonds, and the one that trips up every beginner (including me). Here’s the confusion: “I bought a bond that pays 3%. Interest rates went up. Shouldn’t I be happy? Higher rates sound good.”

No. Here’s why.

Imagine you buy a bond today that pays 3% per year for 10 years. Tomorrow, the central bank raises rates, and new bonds being issued now pay 4%. Your bond still pays 3% — that’s locked in. But who would buy your 3% bond when they can get a brand new 4% bond? Nobody, unless you sell at a discount. So the market price of your bond drops until the effective yield for a buyer matches the new 4% rate.

The seesaw analogy: interest rates sit on one end, bond prices sit on the other. When one goes up, the other goes down. Always. This is not a tendency or a correlation — it’s a mathematical identity built into how bonds are priced.

Where $P$ is the price, $C$ is the coupon payment, $F$ is the face value, $r$ is the market yield, and $n$ is the number of periods. When $r$ goes up, every term in that sum gets smaller. Price goes down. That’s it.

The critical implication: if you hold a bond to maturity, price fluctuations don’t matter. You get your coupon and your principal back regardless. But if you need to sell before maturity — or if you hold a bond fund (which never “matures” because the fund manager constantly buys and sells bonds) — then interest rate movements directly affect your returns.

Types of bonds in China#

China’s bond market is the world’s second largest, and it’s split into several categories that I found confusing at first because they’re organized by both issuer and market.

Government bonds (national bonds)#

Issued by the Ministry of Finance. These are the safest bonds in the Chinese market — the full faith of the central government backs them. Current 10-year government bond yield hovers around 2.2-2.5% (it’s been falling for years as the economy slows).

Key features: tax-exempt interest (no income tax on coupon payments), highly liquid, used as the benchmark for all other Chinese bonds. When people say “the risk-free rate in China,” they mean government bond yields.

For retail investors, there are also savings bonds (chu xu guo zhai) sold through banks. These are non-tradable — you can’t sell them on the secondary market — but they offer slightly higher yields than tradable government bonds and are redeemable early (with a penalty). Think of them as a government-backed time deposit with a better rate.

Local government bonds#

Issued by provincial and municipal governments to fund infrastructure — roads, subways, water treatment plants. In theory, these carry slightly more risk than central government bonds because local governments can’t print money. In practice, the market treats them as quasi-sovereign because the central government has historically bailed out struggling provinces.

Yields are typically 20-50 basis points above central government bonds. Most are held by banks and institutional investors, not retail.

Corporate bonds#

This is where the yield gets interesting — and where the risk rises. Corporate bonds in China come in several flavors:

• Enterprise bonds (qi ye zhai): issued by state-owned enterprises, regulated by NDRC. Historically seen as quasi-government.
• Corporate bonds (gong si zhai): issued by listed companies, regulated by CSRC. More market-driven pricing.
• Short-term commercial paper and medium-term notes: issued in the interbank market, regulated by PBOC/NAFMII. The most active corporate bond segment.

Credit spreads in China can range from 50 basis points for a AAA-rated SOE to 300+ basis points for a lower-rated private company. After the real estate developer defaults of 2021-2022, the market learned the hard way that “too big to fail” doesn’t always hold in the corporate sector.

Convertible bonds: the hybrid#

Convertible bonds deserve special mention because they’re genuinely interesting. A convertible bond (ke zhuan zhai) is a corporate bond that can be converted into shares of the issuing company at a predetermined price.

The pitch: you get a bond floor (downside protection — the bond still pays coupons and returns principal) plus equity upside (if the stock goes up, you convert and participate in the gains). In practice, convertible bonds in China have performed very well historically — the median return across all expired convertible bonds is positive, because companies are incentivized to get you to convert (it means they don’t have to pay back the principal).

But they’re more complex than plain bonds. The conversion price adjusts, there are call provisions, and the bond floor erodes if the company’s credit deteriorates. I’ll treat this as a “second-year” topic — worth knowing about, but not where a beginner should start.

Two markets, one country#

Chinese bonds trade in two separate markets:

1. Interbank market: where banks, insurance companies, and funds trade with each other. This is where ~90% of the volume lives. Retail investors can’t access it directly.
2. Exchange market: the Shanghai and Shenzhen stock exchanges. Smaller volume, but accessible to anyone with a brokerage account.

Most bond funds operate primarily in the interbank market, so as a retail investor buying funds, you’re indirectly accessing the larger, more liquid pool.

Bond funds vs. individual bonds#

Here’s my practical advice after studying this: unless you have substantial capital (500,000+ yuan) and are willing to learn the mechanics of bond trading, buy bond funds rather than individual bonds. Here’s why:

Diversification. A single bond default can wipe out years of coupon income. A bond fund holds hundreds of bonds — one default is a small hit. In 2021, when several major real estate developers defaulted, individual bond holders faced total losses. Bond fund holders saw a modest dip.

Liquidity. Individual bonds, especially corporate bonds, can be hard to sell. The bid-ask spread can eat your returns. Bond funds offer daily redemption.

Professional management. Bond fund managers handle the duration management, credit analysis, and rolling of positions as bonds mature. Doing this yourself requires real expertise.

Lower threshold. Many individual bonds have minimum purchase amounts of 100,000-1,000,000 yuan. Bond funds start at 1 yuan.

Types of bond funds#

Not all bond funds are the same, and this distinction matters:

Pure bond funds (chun zhai ji jin) hold only bonds. No stocks. These are the “stable” option. Subdivided into:

• Short-duration pure bond funds: average duration under 2 years. Very stable. Annual returns typically 2-4%. Maximum drawdown in bad years: 1-2%.
• Medium-to-long duration pure bond funds: average duration 3-7 years. Higher expected returns (3-5% annually) but more volatile. Can drop 3-5% in bad years.

Primary mixed bond funds (yi ji zhai ji): hold mostly bonds but can invest in stocks from new share placements. Slightly more volatile than pure bond funds.

Secondary mixed bond funds (er ji zhai ji): hold bonds plus up to 20% in stocks. These are a different animal — the stock portion can cause equity-like drawdowns. I’ve seen people buy these thinking they’re getting “a bond fund” and then panic when it drops 5% because the stock sleeve got hit.

My current allocation uses short-duration pure bond funds for my emergency reserve and medium-duration pure bond funds for the fixed-income portion of my investment portfolio. No mixed bond funds — I’d rather control my equity exposure separately.

The November 2022 bond crash: when “safe” stopped feeling safe#

This event crystallized my understanding of bonds more than any textbook. In November 2022, Chinese bond funds — the supposedly “safe” investment that everyone parked their money in — suddenly dropped 1-3% in a matter of days. For context, a pure bond fund earning 3% annually dropping 2% in a week means losing over half a year’s returns in days.

What happened? A chain reaction:

Step 1: Policy shift. In early November 2022, China announced a significant relaxation of its Covid-zero policies and a package of measures to support the struggling real estate sector. The market suddenly expected economic recovery, which meant potentially higher inflation, which meant potentially higher interest rates.

Step 2: Rate expectations spike. Bond traders, who live and die by interest rate expectations, started selling. Government bond yields jumped by 15-20 basis points in days (a large move for government bonds). Remember the seesaw — yields up, prices down.

Step 3: Redemption spiral. Here’s where it gets ugly. Millions of retail investors held bond funds through bank wealth management products (li cai chan pin). When they saw their “guaranteed” returns going negative, they panicked and redeemed. The fund managers had to sell bonds to meet redemptions. More selling pushed prices down further. More losses triggered more redemptions. A textbook liquidity spiral.

Step 4: Liquidity crunch. The interbank market, which normally functions smoothly, seized up. Everyone was selling, nobody was buying at reasonable prices. Even high-quality government bonds dropped because fund managers had to sell whatever was liquid to meet redemptions.

The total drawdown for medium-duration bond funds was 2-3%. For a stock investor, 2-3% is a Tuesday. For bond investors who had never seen their “safe” money lose value, it was a crisis.

Lessons I took away:

1. Bonds can lose money in the short term. The word “fixed income” refers to the fixed coupon payments, not a fixed return. The market price still fluctuates.
2. Duration matters enormously. Short-duration bond funds barely budged during November 2022. Long-duration funds got hammered. If you can’t stomach any volatility, stay short.
3. Redemption spirals are a real risk in open-ended funds. When everyone runs for the exit at the same time, even fundamentally sound bonds get sold at distressed prices.
4. The “safe” allocation in your portfolio is only safe on the right time horizon. Bonds are safe over 1-3 years. Over 1-3 weeks, they can absolutely hurt you.

When to hold bonds: the interest rate landscape#

If the seesaw relationship is the foundation, then the practical question is: which side of the seesaw should I be on right now?

Falling rate environment (good for bonds)#

When the central bank is cutting rates — typically during economic slowdowns — existing bonds with higher coupons become more valuable. Bond prices rise. Long-duration bonds rise the most. This is the golden era for bond investors.

China has been in a broadly falling rate environment since 2018. The 10-year government bond yield has declined from around 3.6% to roughly 2.2-2.5%. Anyone who held long-duration bond funds during this period earned returns well above the coupon rate because of the price appreciation. This is the “bull market in bonds” you hear about.

Rising rate environment (bad for bonds)#

When the central bank raises rates — typically to fight inflation — new bonds offer higher coupons, making existing bonds less attractive. Prices fall. Long-duration bonds fall the most. November 2022 was a microcosm of this.

The strategic response: shorten your duration. Move from medium-to-long duration funds to short-duration funds. You sacrifice some yield but dramatically reduce your interest rate risk.

The current landscape (as of early 2026)#

China’s 10-year government bond yield is in historically low territory. There’s an active debate about whether rates have bottomed:

• Bull case (rates stay low or fall further): the economy continues to slow, deflationary pressures persist, PBOC maintains accommodative policy. In this scenario, long-duration bonds continue to perform well.
• Bear case (rates rise): fiscal stimulus works, the economy recovers, inflation returns. In this scenario, long-duration bonds get hit.

I don’t have a strong view on which scenario plays out — and neither does anyone else, despite their confidence. What I do is hedge my bets: I hold a mix of short and medium duration, and I don’t concentrate in the longest-duration funds.

Bonds and stocks: the dance partners#

In textbooks, bonds and stocks are negatively correlated: when stocks crash (risk-off), money flows into bonds (pushing bond prices up), and vice versa. This is the theoretical foundation of the classic 60/40 portfolio — stocks provide growth, bonds provide stability and act as a shock absorber when stocks fall.

In practice, the relationship is messier:

• During the 2008 global financial crisis, the negative correlation held beautifully — stocks crashed, government bonds soared.
• During 2022, both stocks and bonds fell simultaneously (globally and in China), because the common enemy was rising interest rates/inflation.
• In China specifically, the correlation between A-shares and government bonds has been inconsistent — sometimes negative, sometimes near zero, sometimes briefly positive.

The practical takeaway: bonds diversify a stock portfolio most of the time, but don’t count on them to save you in every crash. The scenario where both stocks and bonds fall together — a rising rate environment with a slowing economy (stagflation) — is the nightmare scenario for traditional portfolios. Fortunately, it’s also relatively rare.

My current bond allocation#

After all this reading and one live scare in 2022, here’s where I’ve landed:

1. Emergency fund (6 months of expenses): short-duration pure bond fund. I need this money to be accessible and stable. Yield is modest (2-3%) but the maximum drawdown is tiny.
2. Fixed-income allocation in investment portfolio (~30-40% of invested assets): split between short and medium-duration pure bond funds. No long-duration funds — I’d rather give up 0.5% of expected return than deal with the volatility.
3. No individual bonds: I don’t have the capital or expertise to build a diversified bond portfolio. Funds do this better.
4. No convertible bonds (yet): interesting in theory, but the equity component adds complexity I’m not ready for.
5. No bank wealth management products: after 2022, I learned that the “stable return” these products advertise can evaporate quickly, and the fee structures are opaque. Direct bond fund purchases through a fund platform are cheaper and more transparent.

What’s next#

We’ve now covered the two major asset classes in a personal portfolio: equities (Article 4) and fixed income (this article). But knowing what the building blocks are doesn’t tell you how to assemble them. How much should go in stocks vs. bonds? How do you rebalance? What about cash, gold, and REITs? The final article in this series — Article 6: Putting It All Together — is about portfolio construction: translating all the theory we’ve accumulated into an actual allocation that you can implement, maintain, and sleep well with.#

This is Part 5 of the Personal Finance series. Previous: Part 4 — Index Funds and ETFs . Next: Part 6 — From Theory to Practice .