Taking Advantage of Fixed Income’s Current Dual Benefit

Doug Drabik discusses fixed income market conditions and offers insight for bond investors.

Taking Advantage of Fixed Income’s Current Dual Benefit

There is often a bunch of chatter over what the Fed is going to do. Why? I don’t understand because the one thing that has been pretty consistent is the Fed’s transparency. I guess it makes for controversial headlines which are just another audience grab rather than reporting of actual news. Whether you agree or disagree with the Fed’s policies and moves is a whole different discussion. Fed Chair Jerome Powell has been clear about his intent on hiking short term rates, consequently slowing employment and consumer spending and thus curbing inflation. Although inflation is dropping (it has fallen 6 consecutive months from 9.1% to 6.5%), it is still well above the target 2.0%-2.5% desired level. The tight labor market has shown no signs of slowing which supports the Fed’s plan to stay on course with more rate hikes.

We have not even peaked on the rate hikes yet the market is contemplating the Fed’s reversal. It is not likely

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Here is what fixed income investors need to contemplate. If the Fed forces a recession like most pundits suggest (if we’re not already in one), the average length of the last seven recessions is just under one year. During all seven recessions, the 1-year Treasury rate declined and in five of seven cases the 10-year Treasury rate declined. One year after the recession, the 1 year and 10 year Treasuries rates were lower in six and four of the occurrences respectively. The takeaway is that as we near the peak of the Fed hike cycle, the markets could be approaching an extended period of lower interest rates. Although the primary purpose of fixed income is often to protect principal, when it also provides high levels of income, it is that much more productive in your portfolios. We believe there is a limited window of opportunity to take advantage of the current high yielding interest rate environment and that moving into intermediate to longer maturities will protect these income levels and reduce reinvestment risk. Take advantage of the dual benefit (principal protection AND high income levels) while the opportunity exists.