Bond Market Commentary
Are You Protecting the Assets You Would Rather Not Lose?
By Doug Drabik
June 17, 2019
You would think we would be getting better at this. At the start of every year, investors, economists and other financial experts prognosticate that, “this is the year interest rates will be higher”. We are inherently optimists: the Cleveland Browns will win the Superbowl, Kim Jong-Un will become a humanitarian, Xi Jinping and President Trump will vacation together, the stock market will triple in value and interest rates will definitely be higher! Or not!
We will certainly survive if the Browns succumb to the Bears. We likely will not live to see Kim Jong-un’s compassion. It’s not probable that Xi Jinping’s or President Trump’s egos will be altered. But… what if the stock market does not continue its torrid pace? What if interest rates don’t go higher anytime soon? What if our expansionary period in this economic cycle is nearing the end? Are you prepared? What if you knew exactly when the next recession hits? How would you be financially positioned?
Long term planning does not necessarily entail unconventional moves in order to accomplish the often primary purpose of a portfolio’s bond allocation: preservation of capital. Long term planning accounts for the various stages of an economic cycle. Barring default, bonds held to maturity provide a defined cash flow, income stream and return of face value (principal) regardless of all the interest rate and economic changes occuring during the holding period. Think about that. The cash flow does not change. Income remains in tact. Headlines imply that if interest rates were to go up, somehow your bond loses all its value. As illustrated in the following chart, bonds can provide known positive attributes in various rate scenarios. The latest Fixed Income Quarterly (https://www.raymondjames.com/-/media/rj/dotcom/files/wealth-management/market-commentary-and-insights/bond-market-commentary/fixed-income-quarterly.pdf?la=en) is dedicated to explaining today’s yield curve and how to stay invested.
Sovereign debt has risen to never before seen levels. This is possibly reason enough to argue that interest rates are destined to remain low. The governments representing the economic powers of the world are incentivized to keep interest rates low.
Although the past does not guarantee like results going forward, the past provides information on how things did go. During the last 2 recessions, the S&P 500 index fell roughly 12% and 36%. If you knew when the next recession was, would that revise your thinking on asset allocation? During the last 2 recessions, Treasuries rallied significantly (prices up/yields down). Does that help?
We certainly don’t advocate trying to time the market. Many experts fail miserably trying to predict the future. What we do promote is your attention to preservation of capital. Opinions will be plentiful on when or if a recession is near. The part of the portfolio most negatively affected by a recession is likely to be the growth assets (equities, real estate, etc). Are the assets dedicated to protecting principal in place and at appropriate levels? Of course we would rather not lose any value but history tells us that is quite possible in the wrong market. Are you protecting the assets you are not willing to lose?
To learn more about the risks and rewards of investing in fixed income, please access the Securities Industry and Financial Markets Association’s “Learn More” section of investinginbonds.com, FINRA’s “Smart Bond Investing” section of finra.org, and the Municipal Securities Rulemaking Board’s (MSRB) Electronic Municipal Market Access System (EMMA) “Education Center” section of emma.msrb.org.
The author of this material is a Trader in the Fixed Income Department of Raymond James & Associates (RJA), and is not an Analyst. Any opinions expressed may differ from opinions expressed by other departments of RJA, including our Equity Research Department, and are subject to change without notice. The data and information contained herein was obtained from sources considered to be reliable, but RJA does not guarantee its accuracy and/or completeness. Neither the information nor any opinions expressed constitute a solicitation for the purchase or sale of any security referred to herein. This material may include analysis of sectors, securities and/or derivatives that RJA may have positions, long or short, held proprietarily. RJA or its affiliates may execute transactions which may not be consistent with the report’s conclusions. RJA may also have performed investment banking services for the issuers of such securities. Investors should discuss the risks inherent in bonds with their Raymond James Financial Advisor. Risks include, but are not limited to, changes in interest rates, liquidity, credit quality, volatility, and duration. Past performance is no assurance of future results.