In recent years, elevated returns and the promise of AI have lured investors—and meme-account speculators—to stock markets. But the bond market is a completely different story.
After keeping interest rates near zero for nearly a decade after the Great Financial Crisis and again during the COVID era, the Federal Reserve began aggressively raising rates in March 2022 to combat inflation. This led to a painful bear market in fixed income due to the reverse trend. the relationship between bond prices and yields (which move with the Fed funds rate).
It’s been 46 months since the bond market last hit a record high, and the Bloomberg Aggregate Bond Index is down about 50% from its July 2020 peak. But with bonds finally starting to deliver consistent returns, some of the world’s leading fixed income investors believe now is the best time in a generation to invest in bonds.
“The entry point is very, very attractive,” said Anders Persson, CIO of fixed income at global asset manager Nuveen. Luck in a recent interview. “I mean, essentially the yield, as you well know, is the most attractive we’ve seen in the last 15-plus years.”
As Rick Rieder, global fixed income CIO and head of the asset allocation team at BlackRock, noted, the Fed’s rate hikes essentially “put fixed income back into fixed income.”
“You can build a portfolio with returns close to 7%, with fairly moderate volatility. It’s been decades since you were able to do that,” he said. Luck last month.
Once investors lock in these yields, bond prices could also rise when the Fed begins cutting rates later this year or next. According to these bond market gurus, this is a great opportunity to combine stable income and rising prices.
Why Bond Investors Are Optimistic
Persson and Rieder, who are collectively responsible for about $2.8 trillion in assets, about 23 times the value of each NBA team combined, are bullish on bonds, even as the PIMCO co-founder and “King bonds” Bill Gross warned that without rate cuts to boost prices, bond market investors will simply “clipping couponsor receiving interest income from the yield.
These coupons are quite beneficial in many sub-sectors.
“When you look at 6% or so for broader fixed income, 7% for preferred, 8% for high yield and nearly 10% for senior debt, those starting levels are actually very attractive from a historical perspective,” Nuveen says. – Persson emphasized.
He added that historically there has been a high correlation between the future total returns of fixed income investors and how high the returns were when they started investing. To this point, NYU Stern annual return chart shows that bonds tend to perform better after the peaks of Fed rate hike cycles (i.e. when yields are high).
Corporate bonds, for example, offered investors yields of more than 15% for five straight years after then-Fed Chairman Paul Volcker raised interest rates to a peak of 19% in 1981 to combat runaway inflation. And in those years, they also outperformed the stock in three out of five years.
Rieder also said there is significant potential for bond prices to rise as rate cuts are likely to occur once data eventually confirms the Fed has beaten inflation.
Persson, who predicts one or two rate cuts this year, said that if the economy starts to falter, the Fed will have to cut rates aggressively. “And then you get the total income or capital gains on that investment,” he said. Luckadding that “in most scenarios, you see pretty good return potential over the next 12 months.”
There is also evidence that bonds could still beat expectations even if interest rates remain unchanged, with the Fed maintaining its current standby stance longer than expected. IN Note to Customers Last summer, LPL Financial chief strategist Lawrence Gillum noted that the Bloomberg Aggregate Bond Index has performed well during periods when the Fed has historically paused rate hikes.
“Since 1984, benchmark bonds have been able to earn average 6-month and 1-year returns of 8% and 13%, respectively, after the Fed stopped raising rates. Moreover, all periods produced positive returns over the 6-month, 1-year, and 3-year horizons,” he wrote.
That’s one reason why the current situation, in which the Fed is stuck in a holding pattern, is a Goldilocks zone for fixed-income investors, Reeder said. “You have this incredible gift, because inflation stays the same, we are able to buy leveraged assets cheaper than we otherwise would have to,” he explained.