Update on bond market

I want to give you an update on the current bond market and yields and their impact on your portfolio.  First, as I outlined in our September monthly update, yields are rising and bond prices are falling SUBSTANTIALLY across the globe.  Inflation and debt level concerns are driving this movement.  Our 10-yr Treasury hit 5.16% this morning – a level not seen since July 2007.

Although the bond market essentially sets rates based on supply/demand factors, the Federal Reserve’s policy does have an impact, primarily on the Prime rate, which feeds into consumer loans.  When the Fed raised rates last week, the Prime rate moved in lockstep from 6.75% to 7.00%.  This move saw 30-yr mortgage rates rise to 7.25%, another level not seen in many years, and continuing to keep the real estate market challenged.

We maintain 2 bond positions in our portfolios: VUSB (a short-term ETF focused on Treasury and Corporate debt of <2yrs).  This is used in the IRA accounts and yields 4.3%.  YTD performance has been relatively steady with a -0.70% loss.  We use PZA (municipal bond ETF that is AMT-free across all US states) for our taxable accounts, ensuring this interest is not Federally taxed.  The muni market has fared much worse than taxable bonds over the past month.  This ETF yields 3.84% (equivalent to 5.05% taxable rate for the 24% income tax bracket and 6.10% for the highest 37% bracket).  These rates are encouraging; however, they come at a cost: YTD performance is down -7.33%.

As with most market moves, be it in stocks, bonds, or commodities, we are confident the selloff in bonds will stabilize through yearend and likely end in yields slightly below where they are today.  We are also keeping a close eye on the yield curve spread and the difference between 2yr and 10yr Treasury rates.  This spread has shrunk to 0.26% and flirting with an inversion (short-term rates > long-term rates), which has preceded every recession, typically 12-18 months following the event.

Thank you and please let me know if you’d like to discuss further,

Paul