The bond market has done well this year, with some bond funds yielding more than 6 percent in 2019. Time to celebrate, right? Well, the high yields mask the real story.
The truth is, some key indicators show that all may not be well economically. And with trade uncertainty and interest rate fluctuations looming, it means the yield party could end soon.
That’s not what income-seeking investors want to hear.
Curve Inversion Alarms
The bond market recently experienced a technical phenomenon that has preceded five of the last six big economic downturns — a key “yield curve” inverted.
Specifically, the yield on the 30-year U.S. Treasury bond dipped below the yield of the Federal Reserve’s short-term Federal Funds Rate. That means it costs less to borrow over three decades than just a few months.
And this isn’t the first yield curve to invert. The 3-month and 10-year bond curves did it this past May, which is another worrying sign.
But there is significance to the 30-year bond flipping. It’s only happened six times in the past 39 years. And five of those times it resulted in significant market dips, including in 2000 and 2008.
Fed in a Corner?
Meanwhile, in the world of monetary policy, the Fed was expected to raise short-term rates methodically over the course of a couple years. Not anymore.
Now the Fed is looking to not rock the boat. So expect no movement on rates or perhaps even some decreases hoping to spur economic activity.
That would seem like a good thing for income investors because when rates rise, bond values fall. But context is important.
First, we’re in a historically low rate environment. The historical average Federal Funds Rate, the underlying rate for many types of loans and accounts in our country, is just under 5 percent.
We’ve been below the average since the mid-2000’s. The Fed hoped to ease closer to historical averages, but that plan seems to be off the table.
Second, the Fed’s new strategy is reactive. It aims to stabilize the economy during global trade uncertainty. Meanwhile, trade talks with China are unresolved and have helped drive bond yields down. But the Fed is ready to “save the day” by reducing interest rates further.
How much lower can rates go? How much longer can the low rate/high yield party last?
Hope Remains, But Consider Diversification
Despite our current situation, bonds should continue to generate steady interest for those with long-term investment horizons. And no matter how you slice it, the U.S. is still the best bond game in town.
A look at global bond alternatives reveals a bleak picture. Japanese government bonds have negative yields — so you’ll lose money holding them to maturity. And other developed economies are yielding only about a percent.
Now, if you don’t want to go global with bonds and aren’t in it for the long haul, it could be time to consider diversification. You may be able to generate more growth and guarantee income using other financial tools.
Most investors know two primary investments — stocks and bonds. But bonds aren’t the only option for those seeking income (like retirees and those about to retire).
For example, annuities and life insurance can provide steady growth and generate income without directly relying on the markets. And there are many different types of policies out there to fit almost any situation and investment portfolio.
In times of uncertainty — like when inverted yield curves, indefinite trade talks, and monetary policy guesswork persist — steadiness can be just the thing to ease the journey.
Holly Peterson is the owner of Elite Retirement Strategies and a former radio show host. You can find her online at eliteretirementstrategies.com or by calling 208-252-4345.