Cart (0)
business newsWhat the Flat Treasury Yield Curve Means for Fixed Income ETFs
By
Wayne Ferbert
Feb 08, 2012 1:30 pm
Essentially, it means that unless you are in retirement or approaching retirement, do not increase your fixed income exposure.
PRINT
 |
|
The Wall Street Journal highlighted Gross’ most recent outlook here – specifically his analysis of the flattening yield curve for Treasuries.
For Treasuries, Gross is pointing out three key points about the yield curve: (1) it is flattening; (2) it is remarkably close to zero on the short-end; (3) the outlook is for it to stay close to zero. Gross worries that there is no room for price appreciation in the Treasuries when they are so close to zero yield already. So, there is no incentive to reach out on the curve given the low yields and lack of difference in the yields along the curve. In fact, given significantly low yields and significant room for price depreciation, why buy these at all?
How does all of this affect the corporate fixed income market? Well, rates are, in part, pegged to the risk-free rate of return in the market. Treasuries are still the risk-free rate of return. So, the corporate fixed income market is similarly flattening – though not nearly as close to zero. But we recognize that even the corporate market has its own built-in floor somewhere above zero. After all, corporate fixed income is not risk-free – so its floor is somewhere above the Treasury floor. It definitely looks like corporates have been approaching that invisible floor – and may already be there.
So, what does this mean for investing in and hedging your fixed income ETFs? I think it means that unless you are in retirement or approaching retirement, do not increase your fixed income exposure. In Buy and Hedge: The 5 Iron Rules for Investing Over the Long Term, we recommend that you replace fixed income in your allocation with hedged equity exposure. Stick to that approach. And if you already have fixed income ETFs with hedges, realize that the potential for price decline is real. The only saving grace is that the US government doesn’t see itself increasing its rates any time soon – so the yield curve might stay this flat for a while leaving some room for sideways price action for a few years.
On the other hand, Gross makes an interesting point: If this curve stays this flat and this low for too long, will the buyers show up to buy any fixed income or treasuries given all of the aforementioned risks – not to mention the credit risk?
All in all, fixed income ETFs are hard to swallow right now given the yield curve. The options market for puts for these fixed income ETFs reflects that risk. Hopefully, in the end, the equities market will continue to be the benefactor of the bearish outlook for fixed income. Investors will likely continue to move into equities and keep this rally going – in fact, let’s face it, some of this rally can probably already be traced to the fixed income market outlook. None of us can guarantee that the market rally will continue, but given the fixed income market challenges, only one thing is certain: the bumpy ride will continue. When the ride is bumpy, consider hedging.
Editor's Note: For more from Wayne Ferbert, go to Buy & Hedge ETF Strategies.
No positions in stocks mentioned.
The information on this website solely reflects the analysis of or opinion about the performance of securities and financial markets by the writers whose articles appear on the site. The views expressed by the writers are not necessarily the views of Minyanville Media, Inc. or members of its management. Nothing contained on the website is intended to constitute a recommendation or advice addressed to an individual investor or category of investors to purchase, sell or hold any security, or to take any action with respect to the prospective movement of the securities markets or to solicit the purchase or sale of any security. Any investment decisions must be made by the reader either individually or in consultation with his or her investment professional. Minyanville writers and staff may trade or hold positions in securities that are discussed in articles appearing on the website. Writers of articles are required to disclose whether they have a position in any stock or fund discussed in an article, but are not permitted to disclose the size or direction of the position. Nothing on this website is intended to solicit business of any kind for a writer's business or fund. Minyanville management and staff as well as contributing writers will not respond to emails or other communications requesting investment advice.
Copyright 2011 Minyanville Media, Inc. All Rights Reserved.
Copyright 2011 Minyanville Media, Inc. All Rights Reserved.
