In the bond market, both shortterm and long-term interest rates continue to fall, making income harder to find for investors.Oct 2019
Shortterm yields have fallen as the Federal Reserve has cut their target rate. Longterm yields have also fallen for a variety of reasons that include both domestic and global market forces. With inflation low, the term premium or additional yield for longer-dated bonds has fallen leading to a flatter yield curve. What this means is you essentially earn about 2% for 2 years, 10 years and even 30 years! Long-term U.S. government bond yields have also been driven lower by foreign investors seeking a positive return. With close to $17 trillion in global bonds (primarily in Europe) offering negative yields, the U.S. Treasury bond market has seen tremendous inflows from foreign investors. This foreign demand has contributed to the flattening of the U.S. Treasury curve, which has also exhibited some modest inversion whereby short rates are higher than long rates. In the past, an inverted yield curve has been an indicator of a coming economic recession.
The New York Fed’s model for estimating the probability of recession, which was around 40% in September, is based on the shape of the yield curve. Amid this challenging environment in the search for yield, we are focused on mitigating credit risk by owning investment grade corporate and government agency bonds.
We view bond positions as helping to lower overall portfolio risk through greater price stability and increased diversification relative to other asset classes, such as stocks. In this context, having the appropriate fixed income allocation consistent with risk tolerance can help to offset shortterm price volatility in the stock market and stabilize the value of portfolios.