Last week, we got more evidence that the economy appears to be
shaking off its weather-related problems. New economic reports,
including new manufacturing numbers and
Friday's better-than-expected U.S. non-farm
, confirmed that the economy has strengthened since February.
However, despite the better data, interest rates remain range
bound, i.e. stuck within a low and narrow range. Why the
disconnect? One factor keeping rates low is a lack of overall
wage growth and overall inflationary pressure. As I write in
my new weekly commentary
, while job creation is accelerating, wage growth is not. And
without faster wage growth, inflation is staying low, allowing
the Fed to take its time in rising rates.
This phenomenon was reinforced by Friday's jobs report.
Despite the biggest surge in jobs year-to-date, hourly wages were
flat and are now up less than 2% year over year. For now, the
lack of wage pressure is giving the Federal Reserve (Fed) time
and keeping rates range bound. In addition,
as I've discussed in the past
, other factors are at work as well. A lack of supply of quality
paper, demand for long-dated bonds by pension funds, and
demographics are all adding to the downward pressure on interest
With rates stuck at historically low levels, and
likely to remain that way at least into early 2015
, investors are bidding up bonds and driving spreads lower,
continuing to search for yield. However, as I've mentioned
the search for yield is starting to look excessive
For instance, in Europe, Spanish bond yields continue to fall,
with the yield on 10-year sovereign debt breaking below 3% last
week. Canada, one of the few AAA rated sovereigns left, sold
50-year bonds at less than 3%. And in the United States, $12
billion of new bonds issued by Apple Inc. garnered $40 billion in
In my opinion, investors may be stretching too far for income
for yield and ignoring risk. While there are few bargains within
fixed income, I continue to like those parts of the market that
offer some relative value, including tax-exempt bonds and
mortgage-backed securities. In addition, for more yield hungry
investors, I'd advocate some exposure to U.S. high yield. You can
read more about my fixed income outlooks in my latest
monthly market commentary.
Sources: Bloomberg, BlackRock Research
Russ Koesterich, CFA, is the Chief Investment Strategist
for BlackRock and iShares Chief Global Investment Strategist.
He is a regular contributor to
and you can find more of his posts
Fixed income risks include interest-rate and credit risk.
Typically, when interest rates rise, there is a corresponding
decline in bond values. Credit risk refers to the possibility
that the bond issuer will not be able to make principal and
interest payments. Non-investment-grade debt securities
(high-yield/junk bonds) may be subject to greater market
fluctuations, risk of default or loss of income and principal
than higher-rated securities.
There may be less information on the financial condition of
municipal issuers than for public corporations. The market for
municipal bonds may be less liquid than for taxable bonds. Some
investors may be subject to federal or state income taxes or the
Alternative Minimum Tax (
). Capital gains distributions, if any, are taxable.
Mortgage-backed securities ("MBS") and commercial
mortgage-backed securities ("CMBS") are subject to
prepayment and extension risk and therefore react differently to
changes in interest rates than other bonds. Small movements in
interest rates may quickly and significantly reduce the value of
certain mortgage-backed securities.