Financial markets got off to a flying start in February, but quickly stalled on the runway amid worries about interest rates. That said, income investors can feel reassured that present yields reflect something more substantive than wishful thinking, counsels Martin Fridson, editor of Forbes/Fridson Income Securities Investor.
It appeared that investors were in for a continuation of January’s robust rally in stocks, as well as such income categories as bonds, preferreds, and REITs. But on February 2, Punxsutawney Phil saw his shadow and a long winter wasn’t the only thing people had to brace themselves for.
From Groundhog Day through late February, prices of stocks and REITs marched steadily lower, while Treasury rates, preferred yields, and corporate bond spreads-versus-Treasuries moved higher.
The resulting performance reversals were severe. In the most extreme example, the ICE BofA US High Yield Fixed Rate Preferred Securities Index dove from an astounding 12.12% total return in January to -1.92% in February. The S&P Dividend Aristocrats, an index of stocks with long histories of dividend increases, plummeted from 3.24% to -1.36% over the same period.
Of more direct concern to investors on February 2 than the mammalian weather forecast in Pennsylvania was the report on January’s increase in nonfarm payrolls. The Bloomberg-surveyed economists’ consensus expectation of 189,000 was crushed by the actual number—517,000. One day later, the headline unemployment rate came in at a 53-year low of 3.4%.
The market’s verdict was that good news on jobs spelled bad news for securities prices. Previously, investors had desperately clung to the belief that the Fed was close to the end of its interest rate tightening. That was despite repeated, unanimous indications from Federal Open Market Committee members that more work was needed to ensure that inflation was under control.
For income investors, the primary objective isn’t to interpret short-term economic indicators in a probably futile effort to outmaneuver each twist and turn in market prices. The key takeaway from last month’s events is that the market has gotten more realistic about the Fed’s intentions.
At 3.97% recently, the 10-year Treasury yield is higher than its 3.83% level at the end of 2022 and up from a 2023 year-to-date low of 3.38% on January 18. There’s no guarantee that we’ve seen the year’s high in interest rates, but you can find attractive income opportunities now that yields are more accurately reflecting Fed intentions on the policy front.
Recommended Action: Continue to invest in select income opportunities.