The last decade in bond markets has had one common theme: next to no yield. Investors and savers have been forced into non-fixed income asset classes like stocks because with yields near 0%, There Is No Alternative, or TINA as it was immediately dubbed. As the Federal Reserve increases interest rates, it is time that investors were introduced to the new acronym in town: PATTY or Pay Attention To The Yield. Yes, for the first time in a long time, interest rates are piquing the interest of investors, and short-term rates are leading the pack. Managing that cash that you’ve set aside for college tuition, a new house, or business operations can once again add meaningful money back in your pocket or onto your balance sheet.
How did we ever get near 0% in the first place?
During the early part of the Great Financial Crisis in 2008, the Federal Reserve had to react quickly to maintain market liquidity and confidence. The main lever they can pull is to adjust the Federal Funds Rate, which is the benchmark interest rate that influences consumers and businesses to either borrow money (with lower interest rates which encourages economic activity) or to save money (with higher interest rates, which reduces loan demand and slows economic activity). The Federal Reserve quickly dropped this rate to a range of 0-0.25% in December of 2008 to encourage investors to spend money and keep markets moving. And the Fed Funds rate stayed at 0% for years.
Where are we now?
As the economy slowly recovered, the Federal Reserve began to increase the Federal Reserve Rate, reaching the not very impressive peak of 2.5%, before the Federal Reserve decided to drop rates back to zero in March of 2020 in response to COVID-19. The combination of low rates (easy money) and government COVID response programs (which pumped dollars out to individuals and businesses) kept our economy going, but also helped fan the first flames of inflation. Inflation accelerated and the Federal Reserve reacted with a rate hike of 0.25% in March of this year. The Fed then began its fastest interest rate increase cycle in more than 50 years and raised rates at each of their four subsequent meetings. The Federal Reserve rate is now 3.00%. The Federal Reserve is expected to continue raising rates in hopes of dampening economic activity enough to drop inflation to an acceptable level.
Cash is no longer trash
What does the Federal Reserve hiking rates to battle inflation mean for the bond market? Rates are rising and rising fastest in shorter maturities. For example, the 10-year treasury yield has increased a bit more than 2.00%, year-to-date while the 1-year treasury bill has increased more than 4.00%. In fact, as of this writing the 90-day T-bill, long considered to be the “risk-free rate of return” is now yielding over 4.00%!
While money market rates have moved up from practically zero, they are not keeping up with the pace of the Federal Reserve hikes. At this time, we should all be paying attention to the money that we have parked in low interest checking, savings, and money market accounts and think about how that money could work for us. One possible way to earn more yield on your cash is to construct a short, discounted treasury bond “ladder”. Ladder refers to staggering maturities in a portfolio to reduce risk and smooth the timing of cash flows. This allows the investor access to higher yielding reinvestment opportunities if rates go up while limiting valuation fluctuations. Bonds maturities can be matched to specific cash outflows or spending needs. There are several options available to explore, reach out to your Becker team to help you assess your specific cash needs and create a cash management plan customized to you.