By Howard Gold, MarketWatch
Courtesy Everett Collection
These days it’s tough enough investing in stocks. Bond investing may be even harder.
Since the S&P 500 index /zigman2/quotes/210599714/realtime SPX -1.28% starting selling off in late February, investors piled into bonds, sending yields plunging. (Bond prices move in the opposite direction of yields.)
The 10-year Treasury note /zigman2/quotes/211347051/realtime BX:TMUBMUSD10Y -6.65% yielded 0.57% late Tuesday, not too far from its March 9 all-time closing low of 0.499%. One- and two-year Treasurys yield practically nothing, while the 30-year Treasurys yield clocked in at 1.16 %. Intermediate-term U.S. investment-grade corporate debt yielded 2.35% and municipal bonds around 1.6% (as of Monday’s close).
Not very appetizing. So I turned to Kathy Jones, chief fixed-income strategist for the Schwab Center for Financial Research. The last two times I spoke with her—in 2018 and again last year—she was right on the money, saying rates would continue to fall while other high-profile bond gurus were assuring us they had nowhere to go but up .
Jones is not calling for a repeat—many rates can’t fall much further without going negative—but she thinks some Treasurys, munis and investment-grade corporates (but not high-yield bonds) offer most investors a decent return and protection against the volatility of stocks.
And she’s looking for yields to stay low for some time. “Yields are bouncing around at low levels, which is something I think will probably continue to be the case until we get well beyond this particular crisis,” she told me in a telephone interview.
That’s because she’s not optimistic the economy will bounce back strongly from the coronavirus shutdowns in the near future. She thinks the federal government’s multi-trillion-dollar fiscal rescue measures will prevent the very worst from happening, as will the Federal Reserve’s moves to cut rates, expand its balance sheet, and shore up vulnerable corners of the credit markets. But all the debt and money printing, she believes, still won’t cause overheating and inflation, bondholders’ worst enemy.
“It’s hard to imagine that happening with demand being so weak, and unemployment so high, and people’s incomes being hit,” Jones said. “I’m in the camp that this is, certainly for the time being, a deflationary scenario. We have a big hole that’s opened. You can’t really get inflation until you fill it up [with money], and then you put more on top. I don’t think we’re anywhere close to having filled it up, let alone topping it off too high.”
She also doesn’t expect the Fed to officially push rates into negative territory, but the market may do it on its own. The one-year Treasury /zigman2/quotes/211347042/realtime BX:TMUBMUSD01Y -3.04% yielding 0.15% doesn’t have too far to fall before its yield goes into the red. “It is possible, if we get another scare that’s deep enough and there’s another flight to safety, that yields along the Treasury curve could go negative just because demand for safety is so strong,” she notes.
A weak economy and deflationary, rather than inflationary, pressures (illustrated by Monday’s sickening plunge in crude-oil prices /zigman2/quotes/209723049/delayed CL00 -3.55% that continued on Tuesday) make it an OK environment to own bonds, even though income investors may be frustrated by the paltry yields. Jones respectfully disagrees with Ray Dalio, founder of Bridgewater Associates, the world’s largest hedge fund firm, who said last week investors would be “ pretty crazy to hold bonds ” now.
“I love it when people say stuff like that, because Ray Dalio—I think he’s a billionaire, right? No matter what he does, he’ll be fine.”
For those of us who aren’t Ray Dalio, Jones still likes high-quality investment-grade corporate bonds with average durations no longer than five to eight years. “In the corporate bond market, you’re going to get, with higher -rated bonds, anywhere from 2% up to 3% depending on the bond. That’s not the end of the world. It’s not fantastic, and it’s not terrible,” she said. Jones advises all but the most aggressive bond investors to avoid high-yield bonds, which she thinks are very risky at a time when she expects bankruptcies and bond defaults to rise.
She also likes intermediate-term Treasurys. “If stocks decide to go down again sharply and suddenly, Treasurys with some maturity are your best source of diversification,” she told me. And high-quality municipal bonds are still good holdings for investors in high tax brackets, although of course some states are in better shape than others.
I like long-term Treasurys, which I think will do well if stocks plunge again. The iShares Barclays 20+ Year Treasury Bond ETF /zigman2/quotes/206026314/composite TLT +0.84% gives you exposure to the long end, while the Schwab Intermediate-Term U.S. Treasury ETF /zigman2/quotes/205817506/composite SCHR +0.12% has an average duration of around five years. The Vanguard Intermediate-Term Corporate Bond ETF /zigman2/quotes/202884162/composite VCIT +0.04% is a good way to invest in another one of Jones’s favorite bond sectors. I don’t own any of these ETFs.
Howard R. Gold is a MarketWatch columnist. Follow him on Twitter @howardrgold.