• Bonds can add diversification to your investment portfolio. One strategy to counter the effects of stock market volatility is to add investments to your portfolio that are not highly correlated with movements in the stock market. Historically, stocks have a low positive correlation with corporate and government bonds. (Past performance is no guarantee of future results.) With this strategy, bonds will hopefully increase or not decrease as much when the stock market turns down.

• Many bonds offer fixed, periodic interest income and the return of your principal at a specified future time. Thus, even during a significant bear market, you will receive some return in the form of interest payments, and you will receive your entire principal at maturity. Bonds also offer capital gains potential. A bond’s price generally rises when interest rates fall and declines when interest rates rise. If you sell a bond before maturity, you may have a gain or loss on the transaction. However, you can avoid the loss by holding the bond to maturity, when you will receive the full principal amount.

• Bonds are often better suited for short- or medium-term financial goals. If you will need the money in a few years, you may not want to keep it in stocks and run the risk that a major market decline could significantly reduce your portfolio when you need the money.

Despite these advantages, you might not feel that bonds are attractive now, since long-term rates are not much higher than short-term rates. For instance, as of July 20, 2007, three-month Treasury bills had a yield of 4.98%, while 10-year Treasury notes had a yield of 5.04%, and 20-year Treasury bonds had a yield of 5.20% (Source: Federal Reserve Statistical Release, July 20, 2007). However, there are strategies you can use in this environment:

• Stay invested in short-term bonds until long-term rates increase. When long-term rates increase, you can shift some of your principal into longer-term bonds to lock in higher rates.

• Ladder your bond portfolio. A bond ladder is a portfolio of similar amounts and types of bonds that mature on several different dates. For instance, a $30,000 portfolio might consist of six issues of $5,000 each, maturing in six consecutive years. Since the bonds mature every year or so, you reinvest the proceeds over a period of time rather than in one lump sum. If rates increase, you have money every year or so to reinvest at the higher rates. With declining rates, you have some funds invested in longer-term bonds.

• Consider corporate bonds. Corporate bonds typically carry more risk than Treasury securities, but returns are also typically higher. While 30-year Treasury bonds currently yield 5.12%, Aaa rated corporate bonds yield 5.74%, and Baa rated corporate bonds yield 6.63% (Source: Federal Reserve Statistical Release, July 20, 2007).

• Evaluate municipal bonds. If you are in a high marginal tax bracket, consider municipal bonds, which currently yield 4.55% (Source: Federal Reserve Statistical Release, July 20, 2007). Since the interest income is generally exempt from federal income taxes, that means the taxable-equivalent yield is 7.00% for a taxpayer in the 35% tax bracket, 6.79% for a taxpayer in the 33% tax bracket, and 6.32% for a taxpayer in the 28% tax bracket. The taxable equivalent yield would be higher if you select a bond issued in your resident state, which would also be exempt from state and local income taxes. The interest income for some investors may be subject to the alternative minimum tax (AMT).