Bonds take center stage at midyear 2023
July 26, 2023
July 26, 2023
Opportunities in the fixed income market abound in the second half of 2023 as sticky inflation continues to drive higher bond yields. Vanguard Chief Economist Joe Davis predicts that we will continue to see modest progress on the inflation front, in part because central banks will need to keep interest rates in restrictive territory to bring inflation down to their preferred 2% target. We’ll see some economic weakness in the second half of 2023 along with those higher interest rates.
“The one silver lining in all this is that you have parts of the financial markets, in particular the bond market, increasingly pricing in this reality of higher interest rates,” Davis said, “not only for this year but for the years to come.”
Because we are most likely near the end of the Fed’s rate hiking cycle, we believe now is the time to add high-quality fixed income exposure. If a recession does arrive in the next quarter or two, we expect investment-grade bonds to hold up reasonably well and benefit from price appreciation once the Fed is able to cut rates.
Given the attractive yields money market funds offer now, you might be tempted to keep your clients in cash and wait for the “right” moment to get them back into the market, especially since fixed income markets and interest rates have continued to experience volatility in 2023. However, predicting the path of interest rates is notoriously hard to do. And in today’s environment, there’s less room for error now that yields have increased so much.
Clients may still be experiencing strong emotions about last year’s market performance, but it may help to remind them that 2022 was a highly unusual year; bonds lost 10% in the first four months of 2022, which is among the worst returns in U.S. history.¹ But, the anomaly that was 2022 sets us up for better returns looking forward. According to Vanguard Global Head of Fixed Income Sara Devereux:
Take advantage of this opportunity to leverage bonds and potentially improve investment returns for your clients.
1 Jason Zweig. It’s the Worst Bond Market Since 1842. That’s the Good News. Accessed July 19, 2023 at https://www.wsj.com/articles/its-the-worst-bond-market-since-1842-thats-the-good-news-11651849380.
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