2022 saw its share of challenges for advisors and investors. Between record-high inflation, an inverted yield curve and a looming global recession, advisors faced no shortage of headwinds.
Here’s a look at a few of these obstacles, along with our perspective about how to potentially turn them into opportunities in 2023 and beyond. Our clients rely on us to bring institutional-grade fixed income experience to their individual retirement planning as well as family office strategies focused on producing lifetime, sustainable income,
Inverted Yield Curve: What You Need To Know
Today’s yield curve is inverted—more so than it has since the 1980s. The U.S. Yield Curve (10-yr treasury—2yr treasury) is a bone chilling -78 basis points of inversion. History tells us this may be especially troubling: the U.S. yield curve (10yr – 1yr) has inverted before each recession since 1955, with a recession following between 6 and 24 months. An inverted yield curve offered a false signal just once during that timeframe, according to a report by the San Francisco Fed. Now the worst since Q3 1981, when it inverted by -170 bps, this is the clearest signal yet that trouble may be on the horizon for the economy.
Against this backdrop, the rate of change in interest rates is unprecedented: today’s 30-year mortgage rates have increased over 120% in just over a year. Meanwhile, the U.S. Treasury index has experienced a -18.51% drawdown from its peak in July 2021, according to the Bloomberg U.S. Treasury Total Return Index.
The Inflation And CPI Conundrum
Inflation and consumer prices present a mixed bag for investors. The recent and relatively good news is that inflation appears to have rolled over, coming down off its 40-year high, giving the Fed the ability to potentially slow the pace of increases. On the other hand, inflation remains extraordinarily hot despite the recent pullback. Here are a few additional economic indicators and trends we are watching and implications we are anticipating:
• CPI isn’t helping matters as cost pressure on household essentials has not yet eased. Prices across essential household goods and cost centers continued to accelerate. Price growth continues to run a premium to wage growth.
• As asset price deflation continues, and cost components of CPI continue to rise, we anticipate the ultimate slowdown in the economy, due to the Fed’s aggressive hiking cycle, which is what ultimately fixes inflation, will occur sometime in 2023.
• Job growth for the most part is robust; however, we are beginning to see layoffs in the tech sector, and may see layoffs in the housing sector.
• Domestic growth: We are getting mixed signals when it comes to domestic growth. Some fourth quarter estimates look relatively strong, while Q1 2023 numbers are indicating a rollback into negative growth territory. This suggests that if a strong fourth quarter plays out, it may be more of an outlier than a norm. It’s important to remember that forecasts aren’t always right, so take any domestic growth data with a grain of salt.
• Real estate: We expect residential real estate prices will continue to decline as mortgage rates rise. In fact, now you can essentially earn the same rate of rental return on a Treasury as you were getting on rental real estate six to nine months ago.
Compelling Fixed Income Opportunities For Advisors
The fixed income market has evolved alongside these industry shifts in 2022. And while deploying fixed income into investor portfolios should be well researched and done thoughtfully, we are exploring several areas that may present compelling opportunities for advisors and investors in 2023:
• Take advantage of attractive bond yields with a tactical approach. As the stock market has come down, bond yields have risen to a point that the long-term volatility in bonds makes them a very good alternative for stocks at current rates. For conservative, income-oriented investors, we may get both income and potentially price appreciation in the bond market. And within the bond landscape, there are three approaches to help maximize outcomes. 1) Shorten duration. 2) Go up in quality, from low grade credit to government backed. 3) Consider swapping to higher coupons.