What you need to know
- Aggressive tightening by central banks around the world is a good reason to go short in bond portfolios.
- However, going too short means taking the yield up and down, but missing the opportunity to lock in a higher income stream for longer.
- Retired investors in particular should carefully consider the merits of extending the maturity of a bond portfolio in early 2023.
Speaking on CNBC’s Squawk Box morning show last week, hedge fund manager David Tepper kept coming back to a common theme: Trust the US Federal Reserve.
As Tepper repeated five or six times a approximately 15 minutes of discussion, investors have rarely had such clear and coordinated signals coming from the world’s most important central banks. For its part, the US Federal Open Market Committee expects its target interest rate to end next year at 5.1%, according to their average forecast, a higher level than previously indicated.
The European Central Bank is signaling a similar (if not higher) peak to its interest rate target, according to Tepper, as are other major central banks in Europe and Asia. For the bulls, these strong and coordinated messages provide considerable confidence that going “short” in bond portfolios can be a wise move, such as preferring 2-year Treasuries over longer-dated Treasuries.
As is often the case, Tepper’s comments sparked a new debate on Twitter among a number of prominent financial planning experts, many of whom are urging retired investors to consider the wisdom of adding some maturity to their bond portfolios now that the 10-year Treasury. pays 4% to 5%. Despite the inverting yield curve, experts say the case for extending the maturity of the bond portfolio in early 2023 should be carefully considered.
While Tepper’s perspective as a hedge fund manager gives him a different perspective than experts focused on individual retirement planning, the short vs. long debate is still important for advisors and their clients to monitor in the new year, when all eyes will be on the Fed, inflation on data and target rate forecasts.
Where will the 2 year Treasury go?
According to Tepper, some market watchers are overestimating the fact that headline inflation has moderated somewhat over the past few months, falling from a peak in the 8% to 9% range to a current level of around 6%. or 7%.
While that’s indeed an encouraging change in direction, Tepper says the current rate of inflation is still well above the Fed’s 2% target.
“They don’t want sustained 4 percent inflation or even 3 percent inflation,” warns Tepper. “They’re nervous about that outcome at the Fed, and the European Central Bank is certainly more worried given the inflation we’re seeing in Europe.”
As he reflects on the numbers and central bank messages, Tepper says the 2-year Treasury “just has to go up from here in terms of yields, based on where the Feds want to go.”