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Bond Market Commentary

  • 01.08.18
  • Markets & Investing
  • Commentary

Managing Your Relationship with Your Money

By Douglas Drabik

The Treasury market is trading slightly higher this morning as investors look to find some momentum from Friday’s Employment Report, regardless of whether it was considered a good one. As they say in golf, “every shot makes someone happy.” The employment data offered a little bit of good and not so good news. The good was that employment, by almost every measurement, remains solid and doesn’t seem to be on a downward trend. The not so good news came in the form of a lack of progress on wages. While the December Average Hourly Earnings figure rose 0.3%, the year-over-year number remains around 2.5%. In fact, since last December, the year-over-year Average Hourly Earnings figure has dropped 0.4% from 2.9% to its current 2.5%. Not only has this baffled the Fed, it has had the same effect on many economists and strategists who have been expecting higher rates on the longer end of the yield curve, mostly based on a rise of inflation. The same can be said for consumer prices as well. The Core CPI rate a year ago stood at 2.2%. On Friday we will get the December 2017 number, which is expected to come in around 1.7% on a year-over-year basis, far below last year’s expectations for inflation. I spend so much time on this because it is the basis for the reason why long rates have remained low, while the U.S. economy continues to grow at a better than moderate pace. That pace keeps the FOMC with a tightening bias, which is why we are seeing short rates continue to rise. This is why we have seen the spread between the 2-year and the 10-year cut in half since the summer. But, unlike in past curve flattening, it doesn’t necessarily mean that a recession is in the offing. There is a real disconnect between the market view of the Fed’s ability to have an impact on inflation vs. the FOMC’s expectation of when real inflation will make its appearance. Otherwise, why would investors keep buying the long end of the yield curve? I expect this “disconnect” to continue, with the greater risk that the Fed will go too far, actually raising rates too high for growth to continue to grow at its current pace. More to come…

For many of our clients, bonds function as the protector of wealth, the guardian of hard earned money and invested prosperity. For clients with equity portfolios, 2017 was a good year. The S&P 500 index was up 20% and the Dow Jones Industrial Average was up 25%. What this means is that many investors are wealthier today than they were at this same time last year. Desired asset allocations are likely distorted, potentially leaving the investment portfolio less safeguarded. As the kingdom (money) grows, the guardian (bonds) gets spread thin and will likely need reinforcements to provide the same sort of protection. This is a good “problem” to have and one that your advisor can easily help you solve by bringing asset allocation back to desired percentages of the total portfolio. A well timed and recognizable expression is: “wealth isn’t about how much you make – wealth is about how much money you save”.

In addition to being mindful of asset allocation, the beginning of a new year can oftentimes be an ideal time to evaluate what you own. Habitually investors look at swap opportunities near year’s end. This is sensible for some types of swaps such as tax swaps; however, positioning assets appropriately at the beginning of the year allows the strategy to “work” for the portfolio for the entire year. Swaps are not some magical or mystical procedure that automatically procures some equally enchanted advantage for the investor. Rather, swaps are simply a “trade-off” or repositioning where the portfolio may or may not fare better given future market or economic transformations. As a prudent investor, you may want to discuss the following reasons (trade-offs) to examine bond holdings with your financial advisor:

  • Are you trying to add duration or call protection? (Shifting bond characteristics, such as extending duration, offers a potentially favorable arrangement to offset growth assets like equities, largely due to their being negatively correlated.)
  • Do you need profits (losses) to offset losses (profits) or better situate for tax purposes?
  • Do you believe interest rates are about to drop dramatically? (Prefunding purchases would allow upcoming cash flows, income or principal to be invested now in a higher rate environment).
  • Does the credit quality of the portfolio need adjusting? (This cuts both ways: too good of credit often means income is needlessly being sacrificed whereas too low of credit means risk may exceed an investor’s tolerance levels).
  • Do lifestyle changes warrant modifying the composition of your current holdings?

If any of these questions provoke thoughts on your financial standing, now is the time to take a deeper dive and meet with your advisor to review your portfolio. The Fixed Income Service Group (FISG) is a team of professionals ready to work with your advisor to analyze and assess fixed income holdings and compare that to the overall investor’s strategy and objectives. A worthy New Year’s resolution: managing your relationship with your money!


To learn more about the risks and rewards of investing in fixed income, please access the Securities Industry and Financial Markets Association’s “Learn More” section of investinginbonds.com, FINRA’s “Smart Bond Investing” section of finra.org, and the Municipal Securities Rulemaking Board’s (MSRB) Electronic Municipal Market Access System (EMMA) “Education Center” section of emma.msrb.org.

The author of this material is a Trader in the Fixed Income Department of Raymond James & Associates (RJA), and is not an Analyst. Any opinions expressed may differ from opinions expressed by other departments of RJA, including our Equity Research Department, and are subject to change without notice. The data and information contained herein was obtained from sources considered to be reliable, but RJA does not guarantee its accuracy and/or completeness. Neither the information nor any opinions expressed constitute a solicitation for the purchase or sale of any security referred to herein. This material may include analysis of sectors, securities and/or derivatives that RJA may have positions, long or short, held proprietarily. RJA or its affiliates may execute transactions which may not be consistent with the report’s conclusions. RJA may also have performed investment banking services for the issuers of such securities. Investors should discuss the risks inherent in bonds with their Raymond James Financial Advisor. Risks include, but are not limited to, changes in interest rates, liquidity, credit quality, volatility, and duration. Past performance is no assurance of future results.