Highlights in this Week’s Update:
- The major U.S. stock indices continue their sideways move in 2014 through last week.
- Bond yields fall while bond prices rise as we had been expecting so far this year.
- Mortgage rates also decline as bond yields slide.
- Ukraine remains an uncertainty in the geopolitical arena after the vote this past weekend.
- Our outlook unchanged with allocations remaining underweighted in stocks/equities for all risk levels.
READ ON FOR MORE DETAILS……………………………………………………………………..
The Markets:
Last week saw mixed results for the major U.S. stock indices, with the Dow Jones Industrial Average up slightly, while the S&P 500 and NASDAQ Composite closing lower. For the year, the Dow is basically flat through last Friday, while the S&P 500 is up 1.6% and the NASDAQ Composite is down 2.5%.
What a Big Surprise to Some – Bonds Flex their Muscles in 2014
Last year, there was plenty of talk that bond prices were at their peak. Dutifully, prices did decline and yields rose (bond prices and yields move in opposite directions), with the benchmark 10-year Treasury yield increasing from a May 2nd low of 1.66% to 3.04% by December 31st (U.S. Treasury). Since the beginning of the year, however, yields have drifted lower, defying predictions from many of the so called “experts”. We had been expecting rates to fall back down and bond prices firm up in 2014, and so far we are seeing our portfolios benefit from higher prices in the fixed income/bond category.
Mortgage rates fell last week with the average rate for a 30 year fixed mortgage now at 4.22% and the 15 year fixed rate down to 3.25%. (Bankrate.com)
Some of the possible reasons why the upward trend in interest rates has been interrupted may include the following:
The Economy started 2014 off on shaky ground
Weaker-than-expected economic data have historically encouraged a flow of funds into longer-term Treasuries, and January’s dip in Treasury yields was no exception. What has been a bit of a surprise – yields have failed to respond to the recent spate of better-than-expected economic numbers. Notably, the bond market barely reacted to April’s strong employment report. In the past, yields would have immediately jumped. It may simply be that the Treasury bond market is skeptical of the upbeat reports and is awaiting more evidence to confirm the surge in activity is for real.
Geopolitical jitters, Fed bond buys, and Europe
The U.S. clearly has its share of economic problems, but compared to the rest of the world, we’re among the nicest homes in an average neighborhood. When geopolitical turmoil surfaces, some investors will seek safety in U.S. Treasuries. What’s going on in Ukraine fits that bill and may be responsible for some of the downtick in yields.
Separately, it’s counterintuitive but the reduction in Federal Reserve bond buys, which were designed to clamp down on rates, may be playing a role. Since late 2008, there have been three rounds of bond purchases (QE) by the Fed using the Fed’s printing presses. During each of the three rounds of bond buys, longer-term Treasury yields actually rose, while yields fell between rounds (Federal Reserve data).
Finally, markets are global and what happens around the world can affect us here at home. The European debt crisis in 2011 and 2012 encouraged a flight into U.S. Treasury bonds, pushing yields to multi-decade lows.
Worries have subsided and a big flow of cash into euro-zone bonds, especially into the troubled peripheral nations that include Italy and Spain, have driven yields in those countries to record lows (Bloomberg).
The question that arises – will U.S. and global investors push up U.S. yields above those of weaker and riskier countries in Europe, or will depressed yields in Europe act like an anchor for bonds at home? For now, it’s likely playing a role in keeping downward pressure on U.S. Treasury yields.
Bonds – a positive contributor
So far this year, bonds have been a positive contributor to U.S. returns.
U.S. Treasury bonds have earned a total return, reflecting price appreciation and interest payments, of 2.10% through May 2nd, according to data from Barclays (Wall Street Journal). And gains haven’t been limited to Treasuries. Municipals are up 4.72%, U.S. investment-grade corporate bonds are up 4.66%, and high yields (junk bonds) have gained 3.72% on average.
Our Outlook:
We are continuing on the same path we started last year, with the view that the stock market in general is still overvalued and therefore have limited our exposure to certain individual stocks in client portfolios for all risk levels. We continue to keep our allocations in fixed income/bond funds of various types, as well as the “alternative” category consisting of commodities, gold, silver, and real estate. The fixed income and alternative allocations have performed well overall so far in 2014. We will keep you advised.
We hope you all had a wonderful Mother’s Day weekend and were able to spend some extra “family time” with your loved ones. We appreciate the privilege to serve each of you and look forward to working together in the years to come.
God Bless,
Your TEAM at F.I.G. Financial Advisory Services, Inc.
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Uncertainty and Volatility