TOKYO—The Bank of Japan made a surprise decision to let a benchmark interest rate rise to 0.5% from 0.25%, pushing the yen higher and ending a long period in which it was the only major central bank not to increase rates.
The
BOJ
said the yield on the 10-year Japanese government bond could rise as high as 0.5% from a previous cap of 0.25%. The central bank has set a target range around zero for the benchmark government bond yield since 2016 and used that as a tool to keep overall market interest rates low.
The 10-year yield, which had been stuck around 0.25% for months because of the central bank cap, quickly moved up to 0.46% in afternoon trading.
The yen rose in tandem. In Tuesday afternoon trading in Tokyo, one dollar bought between 133 and 134 yen, compared with more than 137 yen before the BOJ’s decision.
The Nikkei Stock Average, which had been slightly higher in the morning, was down more than 2% as investors digested the possibility that companies would have to pay higher interest on their debt. Also, the weak yen has pushed up profits for many exporters, so a stronger yen could be negative for stocks.
Gov.
Haruhiko Kuroda,
who is nearing the end of 10 years in office, is known for making moves that surprise the market, although he had made fewer of them in recent years.
Market players had anticipated that time might be running out on the Bank of Japan’s low-rate policy, but they generally didn’t expect Mr. Kuroda to move at the year’s final policy meeting.
The Bank of Japan’s statement on its decision Tuesday didn’t mention inflation as a reason to let the yield on government bonds rise as high as 0.5%. Instead, it cited the deteriorating functioning of the government bond market and discrepancies between the 10-year government bond yield and the yield on bonds with other maturities.
The bank said Tuesday’s move would “facilitate the transmission of monetary-easing effects,” suggesting it didn’t want the decision to be interpreted as monetary tightening.
The move is “a small step toward an exit” from monetary easing, said
Mitsubishi UFJ Morgan Stanley Securities
strategist Naomi Muguruma.
Ms. Muguruma said the BOJ needed to narrow the gap between its cap on the 10-year yield and where the yield would stand if market forces were given full rein.
“Otherwise magma for higher yields could build up, causing the yield to rise sharply when the BOJ actually unwinds easing,” she said.
Japan’s interest rates are still low compared with the U.S. and Europe, largely because its inflation rate hasn’t risen as fast. The Federal Reserve last week raised its benchmark federal-funds rate to a range between 4.25% and 4.5%—a 15-year high—while the European Central Bank said it would raise its key rate to 2% from 1.5%.
In the U.S., inflation has started to slow down recently but is still running above 7%. In Japan, consumer prices in October were 3.7% higher than they were a year earlier.
Japan has seen prices rise like other countries, owing to the impact of the war in Ukraine as well as the yen’s weakness. However, the pace of inflation is milder in Japan, where consumers tend to be highly price sensitive.
Write to Megumi Fujikawa at megumi.fujikawa@wsj.com
Treasury yields fell on Tuesday as markets awaited the release of October’s producer price index figures and digested U.S. Federal Reserve speaker commentary.
At around 4:20 a.m. ET, the yield on the benchmark 10-year Treasury was down by around three basis points to 3.8367%. The 2-year Treasury yield was last at 4.3677% after declining by four basis points.
Yields and prices have an inverted relationship. One basis point is equivalent to 0.01%.
Traders looked ahead to the latest PPI figures which are due later in the day. The PPI reflects wholesale inflation by measuring how prices paid to producers for goods and services develop.
Markets are hoping that the data will provide more clarity on whether overall inflation is cooling, after consumer inflation figures released on Thursday hinted at this.
Fed Governor Christopher Waller suggested on Monday that last week’s data was only part of the bigger picture and other data points would have to be considered before drawing any conclusions.
He also indicated that the Fed would consider slowing rate hikes, but a pause to them is not imminent.
Federal Reserve Vice Chair Lael Brainard also hinted at a potential slowdown of rate hikes in remarks made on Monday.
Investors have been following Fed speaker comments closely as uncertainty about the central bank’s future policy and concerns about the pace of rate hikes leading the U.S economy into a recession have continued.
LONDON—The Bank of England extended support targeted at pension funds for the second day in a row, the latest attempt to contain a bond-market selloff that has threatened U.K. financial stability.
The central bank on Tuesday said it would add inflation-linked government bonds to its program of long-dated bond purchases, after an attempt on Monday to help pension funds failed to calm markets.
“Dysfunction in this market, and the prospect of self-reinforcing ‘fire sale’ dynamics pose a material risk to U.K. financial stability,” the BOE said.
The yield on a 30-year U.K. inflation-linked bond has soared above 1.5% this week, up from 0.851% on Oct. 7, according to
Tradeweb.
Just weeks ago, the yield on the gilt, as U.K. government bonds are known, was negative. Because yields rise as prices fall, the effect has been punishing losses for bond investors.
Turmoil in the U.K. bond market created a feedback loop that left investors like pension funds short on cash and rippled out into other markets. WSJ’s Chelsey Dulaney explains the type of investment at the heart of the crisis. Illustration: Ryan Trefes
On Tuesday, after the BOE expanded the purchases, the yield on inflation-linked gilts held mostly steady but at the new, elevated levels. The central bank said it bought roughly £2 billion, equivalent to about $2.21 billion, in inflation-linked gilts, out of a £5 billion daily capacity.
The bank’s bond purchases, however, are meant to run out on Friday. The Pensions and Lifetime Savings Association, a trade body that represents the pension industry, urged the central bank on Tuesday to extend its purchases until the end of the month.
The near-daily expansion of the Bank of England’s rescue plan highlighted the challenges facing central banks in stamping out problems fueled by a once-in-a-generation increase in inflation and interest rates. It also raised questions about whether the BOE was providing the right medicine to address the problem.
The turmoil sparked fresh demands on Monday for pension funds to come up with cash to shore up LDIs, or liability-driven investments, derivative-based strategies that were meant to help match the money they owe to retirees over the long term.
LDIs were at the root of the bond selloff that prompted the BOE’s original intervention. Pension plans in late September saw a wave of margin calls after Prime Minister
Liz Truss’s
government announced large, debt-funded tax cuts that fueled an unprecedented bond-market selloff.
The BOE launched its original bond-purchase program on Sept. 28, but it only restored calm for a couple of days before selling resumed. An expansion of the program on Monday backfired, with yields again soaring higher.
The selloff on Monday was “very reminiscent of two weeks ago,” said
Simeon Willis,
chief investment officer of XPS, a company that advises pension plans.
LDI strategies use leveraged financial derivatives tied to interest rates to amplify returns. The outsize moves in U.K. bond markets last month led to huge collateral calls on pensions to back up the leveraged investments. The pension funds have sold other assets, including government and corporate bonds, to meet those calls, adding to pressure on yields to rise and creating a spiral effect on markets.
Pensions are typically big holders of inflation-linked government bonds, which help protect the plans from both inflation and interest-rate changes. But these weren’t eligible in the BOE’s bond-buying program until Tuesday.
The U.K. helped pioneer bonds with payouts linked to inflation, sometimes referred to as linkers, in the 1980s. Linkers were originally sold exclusively to pensions, but the U.K. opened them to other investors over the years.
Pensions remain a dominant force in the market because the bonds offer long-term protection against both inflation and interest-rate changes. Their outsize role left the market vulnerable to shifts in pension-fund demand like that seen in recent weeks.
Adam Skerry, a fund manager at Abrdn with a focus on inflation-linked government bonds, said his firm has struggled to trade those assets in recent days.
“We were trying to sell some bonds this morning, and it was virtually impossible to do that,” he said. “The LDI issue that’s facing the market, the fact that the market is moving to the degree that it did, particularly yesterday, suggests that there’s still an awful lot [of selling] there.”
Pensions have also appeared hesitant to sell their bonds to the BOE, reflecting a mismatch in what the central bank is offering and what the market needs.
“The way that the bank has structured this intervention is they can only buy assets if people put offers into them, but nobody is putting offers in,” said Craig Inches, head of rates and cash at Royal London Asset Management. He said the pension funds would rather sell their riskier assets, including corporate bonds or property.
Mr. Willis of XPS said many pensions want to hold on to their government bonds because it helps protect pensions against changes in interest rates, which impact the way their liabilities are valued.
“If they sell gilts now, they’re doing it in the likelihood that they’ll need to buy them back in the future at some point and they might be more expensive, and that’s unhelpful,” he said.
Also plaguing the program: Pension funds are traditionally slow-moving organizations that make decisions with multidecade horizons. The market turmoil has hurtled them into the warp-speed-style moves usually reserved for traders at swashbuckling hedge funds.
To make decisions about the sale of assets, industry players describe a game of telephone playing out among trustees, investment advisers, fund managers and banks. Pension funds spread their assets among multiple managers, which are in turn held by separate custodian banks. Calling everyone for the necessary signoffs is creating a lengthy and involved process.
To give themselves more time, pension funds are pushing the BOE to extend the bond-buying program at least to the end of the month. That is when the U.K.’s Treasury chief,
Kwasi Kwarteng,
is expected to lay out the government’s borrowing plans for the coming year.
The Institute for Fiscal Studies, a nonpartisan think tank that focuses on the budget, warned Tuesday that borrowing is likely to hit £200 billion in the financial year ending March, the third highest for a fiscal year since World War II and £100 billion higher than planned in March of this year. Increased borrowing increases the supply of bonds and generally causes bond yields to rise.
Mr. Kwarteng on Tuesday declared his confidence in BOE Gov. Andrew Bailey as he faced questions from lawmakers for the first time in his new job.
“I speak to the governor very frequently and he is someone who is absolutely independent and is managing what is a global situation very effectively,” he said.
—Caitlin Ostroff contributed to this article.
Write to Chelsey Dulaney at Chelsey.Dulaney@wsj.com, Anna Hirtenstein at anna.hirtenstein@wsj.com and Paul Hannon at paul.hannon@wsj.com
U.S. Treasury yields traded higher on Tuesday as investors digested Monday’s market retreat and the previous week’s data releases that will guide the Federal Reserve’s policymaking.
The yield on the benchmark 10-year Treasury note rose 6 basis points, trading at 3.9531% at around 5:30 a.m. ET. The yield on the 30-year Treasury bond climbed 7 basis points to 3.9173%. Yields move inversely to prices, and a basis point is equal to 0.01%.
The yield on the 2-year Treasury, the part of the curve most sensitive to Fed policy, was up by 2 basis points to 4.3329%.
The retreat from U.S. bonds appears to be picking up pace as commercial banks, pension funds and foreign governments step away, and the Fed increases the pace at which it plans to sell treasuries from its balance sheet. U.K. bonds are also seeing a dramatic slump as the Bank of England’s emergency move to purchase more gilts failed to calm markets.
Investors will be looking out for the data release on the NFIB (National Federation of Independent Business) Small Business Optimism Index on Tuesday, after the previous week’s release showed an unexpected decline in job openings, slower job growth than forecast and a lower-than-predicted unemployment rate.
The previously released data suggested a continued path of rate hiking for the Fed, which has contributed to recent days’ slides in the stock market.
The New York Fed will release its Survey of Consumer Expectations, which provides a look into consumer’s expectations for overall inflation and prices of food, housing and energy, as well as outlooks on earnings and jobs.
13-week and 26-week bonds are also due for auction Tuesday.
LONDON—The Bank of England expanded its support of pension funds at the heart of the U.K.’s bond-market crisis even as borrowing costs leapt higher, a sign that stress in the financial system wasn’t going away.
The U.K.’s central bank said Monday that it would increase the daily amounts it was willing to buy in long-dated bonds before ending the program as scheduled on Friday. It also unveiled two types of lending facilities aimed at freeing up cash for pension funds beyond the end of the bond buying.
The moves failed to calm markets, with yields on 30-year U.K. gilts, as government bonds are known, jumping to as high as 4.64%, from 4.39% on Friday. Outside the past two weeks such moves would be considered unusually large for a single day.
The Bank of England launched its initial foray into markets on Sept. 28 when it offered to buy up to £5 billion, or around $5.55 billion, a day of long-dated government bonds. The program was aimed at stanching the damage from a furious selloff in U.K. government debt over previous days in the aftermath of a surprise package of tax cuts announced by the government.
“The underlying message is that there’s been too little risk reduction so far,” said Antoine Bouvet, senior rates strategist at ING. “There’s a message to pension funds and potential sellers that the window is closing and they need to hurry up.”
Turmoil in the U.K. bond market created a feedback loop that left investors like pension funds short on cash and rippled out into other markets. WSJ’s Chelsey Dulaney explains the type of investment at the heart of the crisis. Illustration: Ryan Trefes
He attributed Monday’s bond selloff to disappointment among investors who had expected the BOE to extend the bond-buying facility.
The original intervention in late September at first calmed markets, with government bond yields plunging in response. But yields shot back up in recent days after it appeared the bank was buying far less than the £5 billion a day, a possible sign that the program wasn’t working as intended.
In the history of crisis interventions, central banks often have to make multiple stabs at solving problems with different types of bond buying or lending programs before markets become convinced that a viable backstop has been created. During the Covid-19 meltdown in March 2020, the Federal Reserve expanded its lending programs several times before calm was restored.
The BOE said it would increase the daily amount of purchases on offer until the program ends, starting with £10 billion Monday, though it was unclear if there would be take-up by distressed sellers.
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The lending programs announced Monday included what the BOE called a temporary expanded collateral repo facility. This lends cash to pension funds in exchange for an expanded menu of collateral than was previously available to the pension plans, including index-linked gilts, whose returns are tied to inflation, and corporate bonds.
The operations would be processed through banks working on behalf of the pension funds. The BOE also made an existing, permanent repo lending facility available to banks acting to help pension-fund clients.
The crisis centers on a corner of the market known as LDIs, or liability-driven investments. LDIs became popular in recent years among U.K. defined-benefit pension plans to make enough money in the long term to match what they owed retirees. These strategies use financial derivatives tied to interest rates.
LDIs also contain leverage, or borrowing, that amplifies pension-fund investments by as much as six or seven times. When the long-dated U.K. government bond yield that undergird LDI investments surged more than they ever have in a single day at the end of September, LDI fund managers required pension funds to post massive amounts of fresh collateral to back up the investments.
To generate that collateral, pension funds have been selling non-LDI bonds, stocks and other investments.
In a letter to lawmakers last week, BOE Deputy Gov.
Jon Cunliffe
said the bank acted to stop forced selling by LDI investors and a “self-reinforcing spiral of price falls.”
The point of the new lending programs and the bond buying is to make it easier for the pension funds to drum up cash so they can pay down the leverage on their LDI funds without causing wider market disruption.
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“The Bank of England has been listening to schemes and the challenges they’re facing right now in still struggling to access liquidity quickly enough to recapitalize LDI,” said Ben Gold, head of investment at
XPS Pensions Group,
a U.K. pensions consultant. The measures also help funds avoid having to sell assets at poor prices, he said.
Mr. Gold estimates that it is going to take between £100 billion and £150 billion for the industry to shore up its collateral on LDI funds.
“I would estimate that we’re probably about halfway there,” he said. “There is still a lot of activity that’s needed to get it done before 14th October.”
Soaring inflation and expectations of swelling government bond issuance pushed bond yields up sharply in recent months. Investors in U.K. government bonds were troubled by the tax cuts announced by Prime Minister
Liz Truss’s
government in part because they weren’t accompanied by a customary analysis of the impact on borrowing by the independent budget watchdog.
U.K. Treasury chief
Kwasi Kwarteng
on Monday said he would announce further budgetary measures on Oct. 31 that will be accompanied by forecasts from the Office for Budget Responsibility, which provides independent analysis of government spending. He previously said that wouldn’t happen until Nov. 23.
—Caitlin Ostroff contributed to this article.
Write to Paul Hannon at paul.hannon@wsj.com, Chelsey Dulaney at Chelsey.Dulaney@wsj.com and Julie Steinberg at julie.steinberg@wsj.com
Treasury yields fell across the board for a second day Tuesday as traders weigh actions from central banks going forward.
The benchmark 10-year Treasury was down 6 basis points to 3.587%, after having surpassed the 4% mark last week. The yield on the policy-sensitive 2-year Treasury fell 5 basis points to 4.045%.
Yields and prices move in opposite directions and one basis point equals 0.01%.
The moves appeared to be helping the stock market, as futures traded sharply higher Tuesday. Stocks also rallied Monday.
Markets also continued to absorb the unexpected decline of the U.S. Purchasing Managers’ Index data for the manufacturing sector, which measures factory activity.
That comes as the Federal Reserve maintains a hawkish tone about interest rates hikes, with speakers from the central bank emphasizing that lowering persistent inflation is a top priority for them.
Various Fed speakers are due to make remarks on Tuesday, which traders will pay close attention to in light of growing fears of a recession brought on by rate hikes being implemented too quickly.
Tuesday will also bring insights into the labor market as job openings data for August is released.
LONDON (AP) — The Bank of England took emergency action Wednesday to stabilize U.K. financial markets and head off a crisis in the broader economy after the government spooked investors with a program of unfunded tax cuts, sending the pound tumbling and the cost of government debt soaring.
The central bank warned that crumbling confidence in the economy posed a “material risk to U.K. financial stability,” while the International Monetary Fund took the rare step to urge a member of the Group of Seven advanced economies to abandon its plan to cut taxes and increase borrowing to cover the cost.
The Bank of England said it would buy long-term government bonds over the next two weeks to combat a recent slide in British financial assets. The bank’s actions are focused on long-term government debt, where yields have soared in recent days, pushing up government borrowing costs.
“Were dysfunction in this market to continue or worsen, there would be a material risk to U.K. financial stability,″ the bank said in a statement. “This would lead to an unwarranted tightening of financing conditions and a reduction of the flow of credit to the real economy.″
The move came five days after Prime Minister Liz Truss’ new government sparked investor concern when it unveiled an economic stimulus program that included 45 billion pounds ($48 billion) of tax cuts and no spending reductions. It also wants to spend billions to help shield homes and businesses from soaring energy prices, sparking fears of spiraling government debt and higher inflation, which is already running at a nearly 40-year high of 9.9%.
The British pound plunged to a record low against the U.S. dollar Monday following the government’s announcement, and yields on U.K. government debt soared. Yields on 10-year government bonds have risen 325% this year, making it much more expensive for the government to borrow to finance its policies.
The Bank of England’s plan to buy government debt helped stabilize the bond market, with 10-year bond yields falling to 4.235% in midday trading in London.
Yields, which measure the return buyers receive on their investment, had risen to 4.504% on Tuesday from 3.495% the day before the tax cuts were announced.
The pound traded at $1.0628 on Wednesday in London, after rallying from a record low of $1.0373 on Monday. The British currency is still down 4% since Friday, and it has fallen 20% against the dollar in the past year.
Opposition parties demanded Parliament be recalled from a two-week break to confront the economic crisis. But Truss and Treasury chief Kwasi Kwarteng stayed silent and out of sight, gambling that the economic storm will pass.
Northern Ireland Secretary Chris Heaton-Harris, one of the few government ministers on view Wednesday, said the government’s policies would “make my country richer and more prosperous.”
“I think you will find economic policy takes more than a couple of days,” he said.
On Monday, the Bank of England had refrained from an emergency interest rate hike to offset the slide in the pound but said it would be willing to raise rates if necessary.
But the bank’s next scheduled meeting is not until November, and the lack of immediate action did little to bolster the pound. The bank was able to step in immediately with bond purchases because its Financial Policy Committee has a mandate to ensure the stability of the financial system.
The British government said it has fully underwritten the central bank’s intervention on government bonds, known as gilts.
“The Bank has identified a risk from recent dysfunction in gilt markets, so the Bank will temporarily carry out purchases of long-dated U.K. government bonds from today in order to restore orderly market conditions,” the Treasury said in a statement.
The U.K. government has resisted pressure to reverse course but says it will set out a more detailed fiscal plan and independent analysis from the Office for Budget responsibility on Nov. 23.
Kwarteng met Wednesday with executives from investment banks including Bank of America, JP Morgan, Standard Chartered an UBS in a bid to soothe markets alarmed by its economic plans.
The Treasury said Kwarteng underlined the government’s “clear commitment to fiscal discipline” and promised new measures soon to boost economic growth, including deregulation of financial services.
The economic turmoil is already having real-world effects, with British mortgage lenders pulling hundreds of offers from the market as brokers waited to see what the bank would do on rates.
Susannah Streeter, senior investment and markets analyst at Hargreaves Lansdown, said the Bank of England move “smacks of a bit of panic and also of frustration that the government appears to be digging in its heels, reluctant to perform a political U-turn.”
Bond yields jumped this week after another major rate hike from the Federal Reserve, flashing a warning of market distress.
The policy-sensitive 2-year Treasury yield on Friday climbed to 4.266%, notching a 15-year high, and the benchmark 10-year Treasury hit 3.829%, the highest in 11 years.
Soaring yields come as the markets weigh the effects of the Fed’s policy decisions, with the Dow Jones Industrial Average dropping nearly 600 points into bear market territory, tumbling to a fresh low for 2022.
The yield curve inversion, occurring when shorter-term government bonds have higher yields than long-term bonds, is one indicator of a possible future recession.
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“Higher bond yields are bad news for the stock market and its investors,” said certified financial planner Paul Winter, owner of Five Seasons Financial Planning in Salt Lake City.
Higher bond yields create more competition for funds that may otherwise go into the stock market, Winter said, and with higher Treasury yields used in the calculation to assess stocks, analysts may reduce future expected cash flows.
What’s more, it may be less attractive for companies to issue bonds for stock buybacks, which is a way for profitable companies to return cash to shareholders, Winter said.
Fed hikes ‘somewhat’ contribute to higher bond yields
Market interest rates and bond prices typically move in opposite directions, which means higher rates cause bond values to fall. There’s also an inverse relationship between bond prices and yields, which rise as bond values drop.
Fed rate hikes have somewhat contributed to higher bond yields, Winter said, with the impact varying across the Treasury yield curve.
“The farther you move out on the yield curve and the more you go down in credit quality, the less Fed rate hikes affect interest rates,” he said.
That’s a big reason for the inverted yield curve this year, with 2-year yields rising more dramatically than 10-year or 30-year yields, he said.
Review stock and bond allocations
It’s a good time to revisit your portfolio’s diversification to see if changes are needed, such as realigning assets to match your risk tolerance, said Jon Ulin, a CFP and CEO of Ulin & Co. Wealth Management in Boca Raton, Florida.
On the bond side, advisors watch so-called duration, or measuring bonds’ sensitivity to interest rate changes. Expressed in years, duration factors in the coupon, time to maturity and yield paid through the term.
Above all, investors must remain disciplined and patient, as always, but more specifically if they believe rates will continue to rise.
Paul Winter
owner of Five Seasons Financial Planning
While clients welcome higher bond yields, Ulin suggests keeping durations short and minimizing exposure to long-term bonds as rates climb.
“Duration risk may take a bite out of your savings over the next year regardless of the sector or credit quality,” he said.
Winter suggests tilting stock allocations toward “value and quality,” typically trading for less than the asset is worth, over growth stocks that may be expected to provide above-average returns. Often, value investors are seeking undervalued companies that are expected to appreciate over time.
“Above all, investors must remain disciplined and patient, as always, but more specifically if they believe rates will continue to rise,” he added.
The latest threat to stocks now isn’t any macro risk — it’s rising 2-year Treasury yields, according to some fund managers and strategists. Short-term, relatively risk-free Treasury bonds and funds are back in the spotlight as the yield on the 2-year Treasury continues to surge. On Wednesday, it reached 4.1% —the highest level since 2007 . As of Thursday during Asia hours, it pushed higher to 4.124%. “The new headwind for stocks is not just about inflation, potential recession, or even declining earnings estimates, but from the ‘competitive threat’ that rising interest rates makes bond yields more attractive,” John Petrides, portfolio manager at Tocqueville Asset Management, told CNBC. “For the first time in a long time, the TINA market (There Is No Alternative to stocks) is no longer. Yields on short duration bonds are now compelling,” he said. Michael Yoshikami, founder of Destination Wealth Management, agreed that bonds had become a “relatively compelling alternative” and could prove to be an “inflection point” for stocks. While Mike Wilson, Morgan Stanley’s chief U.S. equity strategist, said that bonds offer stability in today’s volatile markets. “While Treasury bonds do run the risk of higher inflation [and the] Fed reacting to that, they do offer still a safer investment than stocks for sure,” he told CNBC’s “Squawk Box Asia” Wednesday. “To be honest, I’ve been surprised we haven’t seen a greater flight to that safety already, given the data that we’ve seen.” Data from BlackRock, the world’s largest asset manager, shows that investors have been piling into short-term bond funds. Flows into short-end bond ETFs are at $8 billion so far this month — the largest short-end bond inflows since May, BlackRock said Tuesday. Meanwhile, U.S.-listed short-term Treasury ETFs have attracted $7 billion of inflows so far in September — six times the volume of inflows last month, BlackRock said. It comes as stocks have struggled, with S & P 500 down around 4% so far this month. How to allocate So should investors be fleeing equities and piling into bonds? Here’s what analysts say about how to allocate your portfolio right now. For Tocqueville Asset Management’s Petrides, the traditional 60/40 portfolio is back. This sees investors put 60% of their portfolio in stocks, and 40% bonds. “At current yields, the fixed income allocation of a portfolio can help contribute to expected rates of returns and help those looking to get yield from their portfolio to meet cash flow distributions a possibility,” he said. Here’s a look at how Citi Global Wealth Investments has shifted its allocations, according to a Sept. 17 report: The bank removed short-term U.S. Treasurys from its largest underweight allocations, and increased its allocation to U.S. Treasurys overall. It also reduced its allocation to equities, but remains overweight on dividend growth stocks. Citi added that 2-year Treasurys aren’t the only attractive option in bonds. “The same goes for high-quality, short duration spread products, such as municipal bonds and corporates, with many trading at taxable equivalent yields closer to 5%,” Citi said. “Right now, savers are also sending inflows into higher yielding money funds as yields eclipse the safest bank deposit rates.” Petrides added that investors should get out of private equity or alternative asset investments, and shift their allocations to fixed income. “Private equity is also illiquid. In a market environment like this, and if the economy could continue down a recessionary path, clients may want more access to liquidity,” he said. What about long-dated bonds? Morgan Stanley in a Sept. 19 note said that global macro hedge funds were betting on another 50 basis point rise in the 10-year Treasury yield. This could send the S & P 500 to a new year-to-date low of 3,600, the investment bank said. The index closed at 3,789.93 on Wednesday. “If these materialize, we believe bearishness might become more extreme near term, and the risk of a market overreaction will rise. We reiterate staying defensive in risk positioning and wait for more signs of capitulation,” Morgan Stanley analysts wrote. Rising rates also means there’s a risk the economy will slow next year, and long-duration bonds could benefit from this, according to Morgan Stanley Investment Management’s Portfolio Manager Jim Caron. “Our asset allocation strategy has been a barbell approach,” he said on . “On one side we recommend owning short duration and floating rate assets to manage the risk of rising rates. On the other, more traditional core fixed income and total return strategies with longer duration.” Examples of traditional fixed income include multi-sector investment-grade bonds, including corporates, Caron said. BlackRock also said it believes longer rates could rise, given that the U.S. Federal Reserve’s tightening is just “getting started.” But for now, it urged caution on longer-dated bonds. “We urge patience as we believe we will see more attractive levels to enter longer-duration positions in the next few months,” BlackRock said.
The spike in short-term Treasury yields may have some investors thinking about adding the notes to their portfolio. The yield on the 2-year Treasury went over 3.9% on Friday, the highest level since 2007. Bond yields move inversely to their prices. The 2-year note is at the point on the Treasury yield curve that is most sensitive to rate hikes by the Federal Reserve , which is expected to increase rates for the fifth time this year next week in an effort to tame inflation. In August, the consumer price index rose 0.1% . Economists surveyed by Dow Jones expected a decline of 0.1%. With the yield curve inverted, short-term notes now have higher yields than longer-term ones. Bond king Jeffrey Gundlach, CEO of DoubleLine Capital, said in a webcast Thursday that after several brutal years, the bond market is now the place to be . “The opportunities are more exciting now than any time, in my view, in the past 10 years,” he said. Gundlach’s firm bought long-term Treasurys last week. CNBC’s Jim Cramer, on the other hand, bought 2-year Treasury notes this week for his personal portfolio. For the first time in a long time, the yields are more competitive with stock returns, he said. With short-term notes, investors can get the high yield without a long-term commitment. For those looking to get a piece of the action, here’s what you need to know. Purchasing from the government You can buy Treasurys directly from the U.S. government through its website, TreasuryDirect.gov . You’ll need to set up an account and link your bank to the website. The notes are sold in $100 increments and are generally issued within one week of the auction date. Auctions for the 2-, 3-, 5- and 7-year Treasurys occur every 4 weeks, while the 10-year auction occurs quarterly. Purchasing the notes makes income planning easy. “If you buy an individual Treasury and hold it to maturity, you know what your interest is going to be and you know what your maturity value is,” said chartered financial analyst Tim Utecht, chief investment officer at Life Planning Partners, based in Jacksonville, Florida. “You know exactly what you’re going to get.” You’ll get paid interest twice a year and if you hold the Treasury until it matures, you aren’t affected by market risk. The downside of owning the security instead of investing in a Treasury fund is the lack of diversification, unless you are laddering bonds yourself. You’ll also have to make sure you buy the right Treasurys based on your objectives and time horizon. The investments are also separate from your other accounts, said certified financial planner Diahann Lassus, managing principal at Peapack Private Wealth Management in New Providence, New Jersey. “For people who want to see everything together, it is a little more difficult,” she said. You also can’t buy them in your IRA or Roth IRA, which Lassus thinks is the biggest downside. If you want to sell the bond before it reaches maturity, you can’t do it on the government website. Instead, you’ll have to transfer it to a bank, broker or dealer. Buying through a brokerage You can also purchase Treasury notes on the secondary market, going through a brokerage firm. You’ll still get all the advantages of owning the security directly. For Utech, this is the easiest way to buy the bonds, calling the government website “a bit cumbersome.” Online brokers like Fidelity and Charles Schwab have tables that list the yields on various Treasurys, so you can compare products, he said. In addition to offering secondary-market bonds, both Fidelity and Schwab sell new issue Treasurys. Also be aware that you may not get the exact time horizon on the note on any secondary Treasury purchases, Utech said. Be sure to check on any minimum purchase requirements and fees involved. At Schwab and Fidelity, for instance, it’s free to buy Treasurys online, but a broker-assisted trade is $25 and $19.95, respectively. At Fidelity, the minimum purchase is $1,000 for Treasury notes. What Lassus likes about going through a brokerage is the fact that you have the ability to have your investments all together and you can even add them to an IRA or Roth IRA, she said. Investing in a fund You can also get exposure to the bond market through mutual funds and exchange-traded funds. “It provides immediate diversification,” Lassus said. For instance, a short-term Treasury bond fund could have issues with maturities ranging between one and three years. You can buy them through your brokerage, which might also make it easier to track performance alongside the rest of your holdings. See below for four short-term Treasury funds. However, funds can suffer price dislocation in a year like this one and you have the prospect of losses. Also, income payments can fluctuate since you have different bonds in the fund. Be aware of any fees involved, which could take a bite out of your returns. Funds also have turnover and therefore are subject to capital gains tax, unlike individual bonds.