Bonds Are Now An Alternative To Stocks

Join us as we journey back in time to a time when, at least in terms of technology, dinosaurs ruled. Early in 2007, everyone had a Blackberry, and the first iPhone hadn't even gone on sale yet, much less revolutionized the tech industry. The last time you could earn 5% on a U.S. currency was during this distant age. Treasury note Before now.

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Five percent is a risk-free rate that is far higher than what someone under the age of forty is probably used to. T-bill yields remained close to zero percent after the financial crisis of 2008–2009 for the most part, with the exception of a jump into the 2% level by 2018. When the Covid-19 epidemic broke out in 2020, they fell again.

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The Federal Reserve abruptly increased its short-term interest-rate target by 4.25 percentage points, to 4.50%-4.75%, at the beginning of the year, which caused them to start climbing. The St. Louis Fed reports that T-bills due in six months surpassed the 5% threshold this past week for the first time since April 2007, with two additional quarter-point hikes predicted in March and May and perhaps a third in June.

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Beyond allowing savers to once again earn a respectable return, the increase in short-term money-market returns has important consequences.

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According to Peter Oppenheimer, chief global equities strategist at Goldman Sachs Asset Management, a 5% return with no volatility risk places a very high bar on the stock market. He made this observation in a webinar this past week. This is particularly true given the S&P 500SPX -0.28%'s current price/earnings ratio of 18.5 times, which is significantly higher than its 20-year average of 15.

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There is no alternative to stocks, or TINA, thus Douglas Kass, the CEO of Seabreeze Partners Management, has said hello to TATA (Treasuries Are the Alternative). According to Peter Boockvar, chief investment officer at Bleakley Advisory Group, T-bills are actually yielding about three times as much as the 1.65% dividend return on the S&P 500.

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In light of the yield gap, David Kotok, chairman and chief investment officer of Cumberland Advisors, claims to have a very high cash position of 25% in the exchange-traded stock fund portfolios of his customers.

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What's more, investment-grade corporate bonds currently offer the lowest extra yield margins ever compared to three-month T-bills, which were yielding 4.80% on Thursday, Lotfi Karoui, Goldman Sachs Asset Management's senior credit analyst, said on the unit's webinar.

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BlackRock, the exchange-traded fund's sponsor, reported that the iShares iBoxx $ Investment Grade Corporate BondLQD +0.39% exchange-traded fund (ticker: LQD) has a 30-day SEC yield of 5.02% while carrying higher credit and interest-rate risk.

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James Kochan, a former fixed-income strategist at Merrill Lynch and Wells Fargo and adjunct professor at the University of Wisconsin-Milwaukee business school, advises investors to stick with one- to two-year Treasuries and one- to five-year Treasury inflation-protected securities in light of these developments. He argues in an email that the latter should continue to gain from significant gains in the consumer price index. Large, inexpensive funds in the space include the iShares 0-5 Year TIPS BondSTIP -0.01% ETF (STIP) and the Vanguard Short-Term Inflation-Protected SecuritiesVTIP +0.04% ETF (VTIP).

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Two other ETFs—the iShares 0-5 Year High Yield Corporate BondSHYG +0.41% (SHYG) and the SPDR Bloomberg Short Term High Yield Bond (SJNK) are shorter versions of the major high-yield bond ETFs. Kochan likes shorter-term high-yield funds, given that any defaults in this group should be limited by the economy "doing well enough." But in this area, GSAM's Karoui would avoid leveraged loans. While their adjustable rates may increase yields, the strain they place on borrowers at a time when their income may be squeezed is unsustainable.

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Municipal bonds, one of Trade Algo's income predictions for 2023, have experienced a significant rally since the year's beginning. The good news is that. The bad news is that their costs have increased, decreasing yields for those who are purchasing right away. Kochan would stay away from munis because the rates on 10-year AAA-rated tax-free bonds are just 65% of those on equivalent Treasuries. According to him, a 75% ratio would be a fair value.

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Yet longer-term munis are still appealing, according to John Mousseau, CEO of Cumberland Advisers, with yields of 4.50% for mid-investment-grade ratings. That would be significantly higher than the federally taxable 30-year Treasury yield of 3.90%, or about a 7% taxable yield, for an investor in the 35% tax bracket. And he predicts that additional Fed rate increases would lead to a yield curve that is negatively sloping (with shorter maturities above longer ones), which will ultimately hurt stocks and cause a significant rally in bonds.

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The Argument for a Continuing Stock Rise is Weaken by Good Economic Data

Charles Lieberman, chief investment strategist at Advisors Capital Management, on the other hand, believes that rates will rise. He supports real estate investment trusts with exposure to healthcare and maintains shorter durations for customers. Medical Properties Trust (MPW), Omega Healthcare Investors (OHI), Sabra Healthcare (SBRA), and LTC Properties are among Lieberman's recommendations (LTC). Their yields fluctuate between 6% and 9% or more.

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Over the short term, it is still difficult to beat Treasury bills yielding upwards 5%, with no risk free and exempt from state and without local income taxes. even if they provide all the thrills a flip phone has to offer.

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Amendments & Clarifications

In a previous version of this article, he was incorrectly referred to as Cumberland Advisors' chief executive officer.

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CEO of Cumberland Advisers, John Mousseau was mistakenly referred to in an earlier version of this article as head of fixed income.