How should you invest for September and the rest of the year? As a contrarian bond investor, I’d like to start by discussing what not to do.
Don’t Let The Fed Scare You
You’re not alone if you’re sick of reading about rate hikes, the bond “bubble” or the damage the Federal Reserve can do to the bond market (and, in turn, the stock market).
Frankly, it’s tiring to wade through story after story about the havoc that some pundits say is about to rain down on bonds. It never seems to happen … and it won’t this time.
Yes, the Fed will eventually “normalize” its balance sheet, but that isn’t the end of the world. It will be just another factor that affects supply and demand in the bond market.
The Fed has reinvested about $125 billion in the U.S. Treasury market so far in 2017, but that’s only about 10% of total issuance. The central bank has also spread these purchases all across the bond-market maturity curve, limiting the impact of its actions as much as possible.
Now, I don’t want to be dismissive about the Fed removing 10% of buying demand, but I think that’s manageable within the bond market’s current construct. I’ll get concerned if the Fed suddenly decides to aggressively reduce its balance sheet, but Fed chair Janet Yellen’s remarks at Jackson Hole seem to confirm my view of an extremely cautious central bank.
Yellen also seemed supportive of plans that would allow banks to buy more Treasuries, which would offset or more than offset the Fed’s pullback. So, don’t make risk decisions during the rest of 2017’s based on being too fearful of the Fed.
On the other hand, some things that I definitely recommend you do this fall include:
Watch Draghi Like a Hawk (Pun Intended)
European Central Bank chief Mario Draghi and his ECB colleagues have accomplished two things with their asset-purchase program, both of which impact U.S. markets:
- They’ve been buying a disproportionate amount of German bunds compared to Germany’s total debt outstanding. That’s pushing bund yields downward — which has, in turn, helped keep U.S. Treasury yields so low.
- The central bank is also buying European corporate bonds, which has partly pushed yields on some European junk-bond indices to just north of 2%. That’s prompted many European buyers to allocate capital to U.S. bond markets, pushing down U.S. yields and credit spreads.