The same week that the Fed raised interest rates by 75 basis points (the third such increase this year), Andrew McCormick, head of global fixed income and CIO at T. Rowe Price, told an online audience that this is actually a pretty normal environment. It’s just not normal relative to where things were a year ago.
“We can take advantage of some really good deals that are on offer,” he said during the panel discussion, sponsored by T. Rowe Price and Charles Schwab.
The Short-Term Vs. Long-Term
Also on the online panel was Brett Wander, managing director and CIO of fixed income strategies at Schwab Asset Management. “There is a tendency for investors—understandably—to want strategies that have the highest yield,” he said. But investors should realize that current bond yields are based on the expectation that the Fed will continue raising rates aggressively. “For me,” he said, “the biggest risk with regard to long-term rates is if the Fed slows down the rate hikes.”
Short-term bonds are another matter, stressed Wander. “Investors would be wise to make a very significant distinction between short-maturity fixed-income strategies and longer maturity strategies,” he said. “Though they can be correlated, they are very different animals.”
Investment-Grade And High-Yield Debt
Albert Lee, a director at Charles Schwab in San Francisco, moderated the discussion. He asked about specific investing strategies going forward.
McCormick started by saying that a lot of clients are looking for an income level of about 8% from their fixed-income assets. “You can get a big chunk of that done in fairly safe parts of the fixed-income market,” he said, referring primarily to investment-grade notes. That income level might not be possible right away, he acknowledged, but it seemed likely in the next three or four months.
The topic then turned to riskier high-yield bonds. Wander said they may seem attractive because investment-grade debt has had such low yields and equity markets have had such high volatility. But, he warned, high-yield debt often acts like stocks. “If your intent is to have the fixed-income portion of your portfolio offer downside protection to offset equity market volatility, realize that high-yield corporates may not perform the way you expect” during an equity downturn, said Wander.
But McCormick was more bullish about high-yield debt. “Our base case is not for a really sharp recession,” he said. If it were—if you expect a deep recession that’s going to last a long time—then long-term government bonds such as 10- or 30-year Treasurys would be preferable. But instead, he said he sees “a lot of good names out there at discount prices in both high-yield [corporate bonds] and bank loans … because we’ve had so many investors leave those markets during the course of the year.” Of course, he added, you have to pick the right ones or risk default.
International Bonds
The next question was about international debt, particularly in emerging markets. “There are a number of lingering concerns globally,” said Wander. He and McCormick were aligned, however, in expecting international fixed-income securities to produce better yields in the future.
“That’s not something I would recommend for investors who are looking for near-term liquidity,” added McCormick. “But if you want to invest and stay in it for a while until things repair, there are opportunities and interesting yields available in that part of the market.”