Investors adjust strategies as Fed rate cuts and market volatility reshape the fixed income landscape
The US bond market, once considered the bedrock of financial stability, is now at the centre of intense scrutiny as investors react to the Federal Reserve’s anticipated quarter-point rate cut and the possible end of quantitative tightening (QT), according to Reuters.
Portfolio managers are rethinking their strategies, with some reducing exposure to longer-dated Treasuries and others even going short relative to their benchmarks, as the Fed signals a measured approach to easing monetary policy.
The Federal Open Market Committee is widely expected to lower the benchmark overnight rate to a range of 3.75 percent–4.00 percent, marking its second rate cut this year.
As reported by Reuters, investors are also closely monitoring US Fed Chair Jerome Powell’s remarks for clues on when the central bank might conclude QT—a move that could reduce the supply of Treasuries, push prices higher, and lower yields.
Neil Sutherland, portfolio manager at Schroders, described the end of QT as “another tailwind for fixed income such as Treasuries,” though he noted that current valuations are less compelling than several months ago.
Traditionally, rate-cutting cycles prompt investors to extend duration, locking in higher long-term rates before they decline further.
However, as per Reuters, recent surveys such as JP Morgan’s Treasury Client Survey show a retreat from long-duration positioning, with more investors favouring shorter maturities.
Brendan Murphy, head of fixed income, North America at Insight Investment, stated that while the firm remains overweight duration, it has reduced its position, focusing on the intermediate part of the curve, especially five-year Treasuries.
Tony Rodriguez of Nuveen echoed this sentiment, advocating for a slightly above-neutral duration with an emphasis on the front and intermediate sectors, citing steady fundamentals and a solid technical picture.
Market volatility remains a pressing concern.
The New York Times reported that bond prices have swung sharply in recent years, with the Bloomberg US Aggregate Bond Index returning over 7 percent so far this year, but only after a 13 percent loss in 2022.
Longer-term Treasuries have fared even worse, with the iShares 20+ Year Treasury Bond E.T.F. losing 31 percent in 2022 and 7.7 percent annualized over five years, according to FactSet.
Underlying these shifts are broader structural issues.
As noted by The New York Times, repeated government shutdowns and debt ceiling crises have tarnished the reputation of US Treasuries, once considered “risk-free.”
Aswath Damodaran, a finance professor at NYU, remarked, “Obviously, you can’t, with a straight face, say it is risk free.”
Higher yields are now required to attract buyers, increasing future costs for taxpayers, businesses, and consumers.
Despite the turbulence, high-quality bonds remain a core holding for many investors, both domestic and international.
The latest government statistics, cited by The New York Times, show foreign ownership of US Treasuries at new highs, particularly in short-term securities.
For investors seeking to buffer portfolio risk, Morningstar data demonstrates that adding Treasuries to a stock portfolio can sharply reduce the likelihood of losses over shorter time horizons.
As the Fed’s next move approaches, the bond market’s “roller coaster” is unlikely to end soon.
