Ingrams July 2023

but it’s finally proving to be right,” Kieffer said. “Inflation appears to be heading lower. The two-year trea sury is telling you that the average Fed funds rate over the next two years will be around 4 percent—it’s now at 5.25 percent” as of early July, he said, “implying that over night rates will be headed lower as a result of lower inflation. With the average two-year real rate of return over the past 10 years an ugly minus -1.25 percent, the fact that it’s just above zero today rep resents “a much better value than we’ve seen in a long time. If inflation continues to head lower—as we think it will—today’s rates on safe inter- mediate-term bonds should prove quite attractive over the life of the investment.” Inflation expectations, Richter said, matter far more than current inflation readings: For one, they de termine if, over a given time horizon, the yield on a safe investment out paces inflation expectations for the same period. Low-risk investors still come out ahead if five-year forward inflation expectations are around 2.3 percent while five-year treasuries are yielding close to 4.3 percent. The recent inverted yield curve, he cautioned, could lead investors to be overallocated to short-duration fixed income. So it’s important to understand reinvestment risk if and when rates decline, he said. Irrespective of your savings plat form, “there is always risk with in vesting,” Boswell noted. “However, money market funds are considered less volatile than stocks and bonds. They can quickly be turned into cash or can help fund a new investment opportunity. And in our current high er interest rate environment, they are more lucrative now than they have been, with some money market rates approaching 5 percent. Outside Our Borders Global events have a way of throw ing monkey wrenches into the best investment strategies divined from domestic market movements and conditions, and investors will again have to factor overseas developments into the strategies.

“Interest rates absolutely matter for asset allocation decisions—higher interest rates create competition for investor capital.” — Justin Richter, Mariner Wealth Advisors

The Bond Situation As a result of Treasury rates’ up ward moves, yields in other parts of the bond market have compressed, in relative terms, tightening the spreads between them. Thus, Kieffer said, “Investors don’t get paid very well today for taking credit risk.” Interest rates weren’t going to sit on zero forever, but surging inflation, the Fed’s aggressive response, and tightening credit conditions played havoc with the bond market in 2022, Boswell said, creating a rare environ ment. “Bonds historically have acted as a counterbalance to equities, provid- ing investors some protection when stocks underperform. This didn’t hap- pen last year,” he said. “Although bond prices decreased, creating a negative return, ultimately, savers will experience the benefit of interest rates not being zero. That, too, will change if inflation rates continue their slow crawl down. “The notion of transitory infla tion got turned into a laugh line,

first time in years, which he said was “a tremendous help to retirees liv ing on the income stream from their savings.” On a higher plane, insurance com panies, pension plans, and other insti tutional investors have benefited with dramatically improved funding ratios as the rates on 10-year Treasuries closed in on 4 percent, Kieffer said. The potential downside? “For those exposed to other, lon ger-term parts of the market, such as equities or especially sectors reli ant on leverage, such as Real Estate or other levered markets, rising rates can be a problem,” Kieffer said. “Ris ing interest rates generally mean that far-off cash flows are worth less today (the ‘present value’ of the cash flows has dropped). This hasn’t impacted equities yet, he said, but it could if rates move much higher. And on top of that, higher financing costs put serious pressure on the valuations of any lev eraged investments.

Hitting a Wall M&A activity in the U.S. began to plummet in concert with the Fed’s moves to increase interest rates in early 2022:

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July 2023

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