The Impact of Low Rates

March 11, 2020 10:00 am

Last week, we saw market movements that signaled a low-yield environment. Since then, rates have continued to fall.  Currently the 10-year treasury is trading close to 50bps and the entire yield curve is pricing at below 1% for the first time in history.

Although these unprecedented movements may reflect more short-term fears, we believe they should motivate a revaluation of traditional notions of risk and reward.  As we look to ensure one’s financial planning strategies remain sound, below we highlight some key considerations that may impact all of us:

Over the past couple of weeks, coronavirus fears and the rapid drop in oil prices have gripped global markets. 

In the US, the S&P 500 recently experienced its worst week since the global financial crisis as investors piled out of risk assets, and yields on safe haven assets have collapsed.

In particular, the yield on the 10 year Treasury breached the 1% mark – and is currently the lowest it has been in modern record (back to 1962).

Although the bond market rally may have benefited many traditional fixed income investors in recent weeks, we view the level of current yields as the most relevant measure of investors’ experience to come. And we believe these yields may predict a prolonged period of challenging performance by traditional fixed income portfolios.

While this may concern some, it really means that everyone should review all of their current bond and fixed income strategies to ensure they still meet one’s financial planning and retirement income needs.

In contrast, there are some strategies that still invest and currently offer higher yields above current fixed income solutions – far more than the 1-2% yields currently offered by traditional fixed income.

In addition, some of these strategies have established a track record of delivering consistent returns which have been relatively robust to market instability, due to their structure and near-zero correlation to equities and bonds. While we invest in these strategies for some clients, they are not a one size fits all and require additional consideration and due diligence.

Whatever developments may unfold over the next few weeks and months in financial markets or global economies, we believe smart financial planning will continue to serve as a ballast in investors’ portfolios.

Over the past few years, we’ve discussed the impact of a low interest rate environment on investors’ financial planning goals and investment returns. While some argue rates may one day rise again closer to long-term averages, this is very hard to predict.

Of course, low rates can be great for so many things such as:

Lower mortgage payments

Smaller borrowing costs

Increased stimulus and economic growth

Greater business valuation

Global trade benefits

However, as we’ve discussed prior, low rates and in particular a low risk-free rate can have consequences on our investment returns, our financial planning assumptions, and the ability to generate sustainable lifetime income. Therefore, it is important to be proactive and understand these implications in order to create a smoother path both during the working years and well into retirement.

For reference, academia has documented the fact that higher portfolio volatility can subject investors and retirees to significant sequencing risk. It can also result in a lower level of gross accumulation of wealth. In contrast, there may be better planning and investment strategies that can be measured with greater precision, with less volatility, and where the sequencing risk works in investors favor.

With all this in mind, we want to remind investors that during a time of economic changes like the ones we are experiencing now, it is important to evaluate and trust the financial plans you have put in place and avoid the temptation to let emotions make your financial decisions. Your financial plan is there to guide you through times like this.

As always we are here to help.

Best,
CAM Investor Solutions

Source: Bloomberg; Stone Ridge Asset Management; M & A Consulting Group, LLC, doing business as CAM Investor Solutions is an SEC registered investment adviser. As a fee-only firm, we do not receive commissions nor sell any insurance products. We provide financial planning and investment information that we believe to be useful and accurate. However, there cannot be any guarantees. This blog has been provided solely for informational purposes and does not represent investment advice or provide an opinion regarding fairness of any transaction. It does not constitute an offer, solicitation or a recommendation to buy or sell any particular security or instrument or to adopt any investment strategy. Any stated performance does not reflect the expenses associated with the management of an actual portfolio. Past performance is not a guarantee of future results. Diversification does not eliminate the risk of market loss. Charts and graphs provided herein are for illustrative purposes only. There are many different interpretations of investment statistics and many different ideas about how to best use them. Nothing in this presentation should be interpreted to state or imply that past results are an indication of future performance. Tax planning and investment illustrations are provided for educational purposes and should not be considered tax advice or recommendations. Investors should seek additional advice from their financial advisor or tax professional.

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This post was written by Marc Jimenez, CFA, CFP®

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