November Newsletter to ClientsSubmitted by Moneywatch Advisors on November 3rd, 2023
Enjoy this month’s edition that features a perspective on bonds and their relationship with stocks, as well as a note regarding new rules when writing checks with Schwab.
There’s an expression, “liars, darn liars, and statisticians” that is used to explain escalating levels of misstating truths. The joke being that statisticians are even worse than liars and darn liars. One might add to that list economic forecasters. For instance, Bloomberg Economics predicted on Oct. 17, 2022 that there was a 100% probability of a recession within 12 months. Well, we’ve passed that 12 months and not only is economic growth humming along at about 4% this year but unemployment rates are the lowest since the 1960s. Oops.
We’ve discussed here before that the economy and the stock market are two different things. Economic measurements look at what already happened while investors in stocks try to determine how much companies will earn in the future. A primary determinant of future earnings is the yield on bonds. This is true for two reasons:
- When yields on U.S. Treasury bonds rise to where they are currently – close to 5% for the 10-year – investors need a significant risk premium over that amount to invest in stocks. In other words, if investors can earn 5% in an investment that is as risk-free as there is, they need to be sure they can earn enough more than that to justify the risks of owning stocks;
- Higher bond yields and interest rates can raise borrowing costs for companies, reducing their earnings and, then, the estimated prices of their stock in the future.
So, with bond yields being important to both our fixed income investments as well as our stock investments, what do we believe will happen to yields in the near future? With the disclaimer that no one knows for sure what will happen, here are some interesting insights from Dimitri Delis, Ph.D., Managing Director of Fixed Income Research at Piper Sandler Financial Strategies who we heard speak at a recent conference:
- Dr. Delis believes inflation has peaked and is heading downward. As a result, he believes the Federal Reserve Bank should be done raising short-term interest rates as their work is done in that area;
- Historically, as the Fed has been forced to raise interest rates to combat inflation, they have gone too far and pushed the U.S. economy into recession. He believes this will happen again;
- He predicts a recession will hit during either the 2nd or 3rd quarter in 2024;
- As a result, the Fed will start to lower interest rates next year. When rates decline, bond prices generally rise, making for good bond returns;
- For those reasons, Dr. Delis believes bonds will produce better returns than stocks in the next year or two. While not disagreeing with him, we direct you back to Bloomberg Economics’ predictions of a recession in the first paragraph.
The impossibility of predicting economic growth, recessions, bond yields and stock prices – if Warren Buffett says it’s impossible, it must be – illustrates why we diversify your portfolios. A mixture of fixed income funds, U.S. stock funds, plus some real estate and international company funds are prepared for each of your individual circumstances to help lower risk and hopefully yield higher long-term returns.
In the past with TD Ameritrade, clients have always been able to write checks on accounts regardless if the cash was available or not. Going forward with Schwab, that will change. You will need to confirm you have the cash available before writing a check, otherwise it will be returned. Feel free to call the office if its easier for confirmation.
Thank you for your continuing confidence.