I’m proud to say that I have been involved in equity analysis and portfolio management for more than 20 years. As you’d imagine, I watch bonds and interest rates closely but usually only because they might affect stocks in some way. “Investing” in bonds had always seemed like some sort of paradox to me. This was certainly the case in the aftermath of the Great Financial Crisis (GFC) when Fed intervention and government programs, including those during COVID, boosted liquidity and sent interest rates quite literally to zero. Utterings of TINA, or “there is no alternative”, were pervasive and investors dialed up allocations to risk-assets, which markets happily rewarded. The S&P 500 returned a staggering 17.3% annualized from March 2009 to January 2022.
Since, however, the negative effects of the systemic liquidity boom have complicated matters. Initially thought to be transitory, inflationary pressures have sustained, forcing the Fed to aggressively raise rates – reducing liquidity, and raising economic growth concerns. This has weighed on returns of all assets – the S&P 500 has lost over 13% of its value since its peak in early 2022 and historic losses in bonds ensued. PATTY, or “pay attention to the yield”, has since entered the investment lexicon.
The recent distress seen in the banking sector has also highlighted the liquidity and security of bank deposits. While we believe the banking system in the U.S. remains sound and that regulators will continue to ensure access to deposits, we do think alternatives for such cash are worth considering. Especially so, as yields on short-term U.S. Treasuries (generally seen as “risk-free”) hit highs last seen in 2007. The 3-month T-Bill now yields over 5% (annualized) and the 1-year treasury bond yields over 4.8%. This compares to a standard checking/savings account yield at many banks of roughly 0.25%, or less. In dollar terms, this means that moving $1 million from a low yielding checking or savings account into a cash management program that utilizes U.S. treasuries could earn an additional $45,000 or so over a year. Cash management is a thing again!
Source: St. Louis FRED
Moreover, even though current interest rates are below backward-looking inflation measures, we believe that there are reasons to consider allocating more investment capital to fixed income. First, inflation is trending lower, which should enhance forward-looking real returns. The market expectation for inflation over the next five years is 2.25% for reference. And second, there is increased economic uncertainty, which muddies the outlook for equities in the near-term.
As rates have stayed high, the investment team at Becker has progressively implemented higher fixed income allocations and has proactively managed client cash. And given the current outlook for the various asset classes, even died-in-the-wool equity portfolio managers like me are getting on the fixed-income bandwagon!