Unfortunately, there aren’t many good places for investors to park their capital. Cash isn’t very attractive with 8% inflation, rising mortgage rates are hurting real estate, and alternative investments like gold and crypto are in the red. While bonds are suffering from rising interest rates, their yield could make them the lesser of the evils.
Let’s look at what’s driving the risk of a recession and why bonds might offer a safe haven.
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The geopolitical crisis in Europe exacerbated inflation by pushing energy prices significantly higher over the past few months. In March, crude oil spiked to nearly $130 per barrel and continues to trade in a range of $100 to $110 per barrel. The Russian invasion also sparked an increase in wheat and other commodities, influencing the price of food in supermarkets.
More recently, China’s COVID-19 lockdowns in Shanghai and other populated regions could further disrupt supply chains over the coming months. If that happens, consumers could see even higher inflation until supply chains and commodity markets stabilize, which could hurt consumer spending and economic growth, leading to a recession.
Rising interest rates hurt existing bondholders because they’re locked into lower rates. For example, a bond that yields 2.5% during an environment with 8% inflation is losing 5.5% in real terms. As a result, bond prices have plummeted in recent months – the iShares Core US Aggregate Bond ETF (AGG) is down nearly 10%, on a total return basis, so far this year.
The good news is that the interest rate on new bond issues is on the rise with 30-year Treasury yields surpassing 3% for the first time since 2019. Moreover, many investors expect a short and sharp tightening cycle that could limit the impact on the bond market after the initial jolt, although inflation will ultimately determine what happens next.
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Rather than buying aggregate bond portfolios, Morgan Stanley recommends that investors should look at investment-grade corporate bonds, select high-yield bonds, securitized credit and emerging market debt as attractive opportunities. Alternatively, they can look toward actively managed, fixed income funds to provide expertise to help navigate the market.
There are several active bond ETFs that could fit the bill:
|Name||Ticker||Expense Ratio||Total Assets|
|Fidelity Total Bond ETF||FBND||0.36%||$2.3 Billion|
|PIMCO Enhanced Short Maturity Active ETF||MINT||0.35%||$12.2 Billion|
|JPMorgan International Bond Opportunities Fund||JPIB||0.50%||$301 Million|
|Fidelity Corporate Bond ETF||FCOR||0.36%||$192 Million|
Data as of June 9, 2022
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