Aside from a few bumps along the way (including the recent turmoil), the past nine and a half years have been nirvana for investors in U.S. equities who had skin in the game during the nation’s longest-ever bull market. On the flip side, it has been a miserable time for savers and income investors whacked by low interest rates. The federal funds rate dipped to an all-time low of 0.25% in December 2008 in the midst of the financial crisis, where it remained until December 2015 when it nudged up 0.25% as the Federal Reserve began to unwind its uber-accommodative monetary policy.
The fed funds rate is the overnight interest rate at which depository institutions lend reserve balances at the Federal Reserve to other depository institutions. The rate is a barometer of the nation’s economic health and influences short-term yields paid on various financial products.
Subsequent Fed rate hikes had pushed up the fed funds rate to a range of 2% to 2.5%—certainly better than near-zero percent, but still paltry. Given that, and with fears of growing inflation, is there a place people can go to get more oomph for their cash management needs than what’s available in certificates of deposit and money market funds?
Ultra-short bond exchange-traded funds might be the answer, depending on what a saver or investor aims to do with excess cash. Some of these products pay yields exceeding 2%, which is roughly equal to what’s widely available on bank accounts, CDs and money market funds. They also have very low expense ratios—some charge management fees in the single-basis-point area. And because they’re ETFs, they offer liquidity that lets investors sell their positions for the price of a broker’s commission (which is de minimis at discount brokerages). CDs, on the other hand, entail early withdrawal penalties that, in some cases, can be quite painful for investors.
Meanwhile, the economy’s continued strength and growing inflationary pressures have pushed bond yields higher and bond prices lower (bond prices and yields move in opposite directions). The yield on 10-year Treasurys was above 3% in late September, and investors fear that rising yields will cause bond funds to lose value. As a result, investment managers and financial advisors are advising clients to seek bond funds with low duration, which measures a bond’s sensitivity to changes in interest rates. Typically, the longer a bond has until maturity, the more its price will fluctuate as interest rates change. Ultra-short bond ETFs invest in securities with maturities of one year or less, which mitigates the impact of rising rates.
Together, these two factors—attractive yields and low fees, along with low duration risk in a rising interest rate environment—make ultra-short bond ETFs an intriguing option.
Cash On The Sidelines
One of BlackRock’s investor themes this year is working with financial advisors and private wealth investors and keeping them aware of what’s going on with money market fund yields, says Karen Schenone, a fixed-income product strategist at BlackRock’s global fixed-income group who focuses on iShares fixed-income ETFs.
“We’re definitely seeing a lot of people with cash on the sidelines, and we’re encouraging them to put that money to work in something that would produce more income but without taking too much risk if it is a very conservative bucket for them,” she says.
Schenone tells investors to think about cash tiering. “If you have checking account cash or cash you don’t want to take a lot of—or any—market risk with, that’s where a cash-equivalent is more appropriate,” she says.