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Don’t climb a rickety ladder for just a little more return
COMMENTARY
By David Knall
In addition to equity accounts, we also manage approximately $1.5 billion in high-quality, tax-free and taxable bonds. We continue to follow the “old-fashioned” strategy that has served our fixed income clients well for the last 40 years: a focus on capital preservation, safety, and income.
One of the major issues that makes this period so very unique for fixed income investors is the “zero” level of interest rates. “Almost zero” interest rates in money markets and very low rates in the highest quality tax-free and taxable bonds is very frustrating both for clients and for us. Bill Gross from PIMCO calculated it would take 6,932 years to double your money in a money market fund at 0.06%. The collateral damage of this 0% rate situation is that it invariably leads to a misallocation of resources and wild boom and bust cycles. Zero rates distort investment decisions, causing investors to place funds in vehicles never contemplated when rates were higher (in the good old days). Another consequence of “forcing” the public to stretch for yield (and take more risk) is that these desperate individuals may really feel it when, inevitably, their bonds go down in price from credit downgrades and/or interest rates going up. The Federal Reserve has driven rates to levels where banks can earn a very nice interest margin, therefore “saving” them. There is no question that we need a healthy banking system, thus, the steep yield curve. Unfortunately, the “responsible” individual who has saved their money for a rainy day is earning a horrible rate on those dollars.
Do we now change our stripes and buy lower quality bonds with longer maturities for our clients? Do we stretch for yield? We don’t think so. We view our bond accounts as “dry powder” for tomorrow’s opportunities, which enables us to sleep at night in years like 2008. We are not sure what we will do with this dry powder, but the point is that we will have options. When will rates go higher? When will stock prices give us better opportunity? That is the end of the story.
David Knall is a Senior Vice President/Investments and Managing Director with the Knall Cohen Group at Stifel, Nicolaus & Company, Incorporated, Member SIPC & NYSE, and can be contacted in the Indianapolis office at (800) 382-4353. |
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