“This is your time. Their time is done. It’s over.”
Herb Brooks, who coached the 1980 “Miracle on Ice” U.S. Olympic Hockey Team to its unlikely win over the Soviet Union, included that quote as part of what I consider to be the best motivational speech in sports history. He was talking about his team and their Russian opponents. He might as well have been talking about bond investors on June 20, 2013.
On that day (yesterday) the Fixed Income (a.k.a. bond) market may have experienced the defining moment of this generation of investors. The yield on the 30-year U.S. Treasury bond moved above 3.50% for the first time since the summer of 2011. After many fake-outs, this could be the start of a long-term trajectory higher. This will not be a smooth transition as we are working off years of suppression of interest rates, and reversing a bull market in bonds that dates back to the early 1980s…around the time of Brooks’ immortal locker room speech.
In typical Wall Street fashion, this sea change in the market seems to be catching both professional and amateur investors off guard…which is absolutely ridiculous! We have been on the verge of a bond bear market for years. The only reason this is happening now and not a couple of years ago is that the Federal Reserve took a big gamble. The Fed decided that the only way to prop up the economy was to give the U.S. Treasury (which issues bonds to fund our national spending…and pay off earlier debt) a guaranteed buyer. That is, when the Treasury issues bonds, the Fed is an active purchaser. They effectively have been propping up the bond market for a long time now. This is why Sungarden portfolios have been devoid of high-quality bonds for years now. It is also why a completely different approach to retirement income is warranted today versus any other time in most investor’s lives.
The Fed’s tactic is what is known as QE, Quantitative Easing. Given what seems to be upon us, we might as well combine those two words into one: “QUEASING (urbandictionary.com) to describe what is about to happen to bond investors’ assets. And while the Fed technically sets only very short-term rates, the bond market keys off of what the Fed does in valuing longer-term bonds.
Why should investors care? Because longer-term bonds (10 to 30 years to maturity or longer) are a staple of many bond mutual funds and retiree bond portfolios. When long-term interest rates go up, the prices of those bonds head south. AND, when this happens from such low interest rate levels, the potential damage to the bond side of investors’ portfolios is devastating. What people used to consider the “conservative” part of their portfolio could now be the most disappointing…and dangerous. Most investors understand that the stock market comes with volatility and loss potential. They may soon realize that bonds are no different. They just have been different for three decades. Not anymore.
I will talk much more about the implications for income investors in upcoming blog posts.
© Sungarden Investment Research