Todd Rosenbluth, VettaFi head of research: Not only is this a timely topic because this might be the last Fed rate hike for a while, but because advisors are directly telling VettaFi, or indirectly indicating with their actions on our platforms, that things are different. This week, we had a webcast and asked advisors, “What changes are you making in your fixed income allocations for clients?” The most popular choice, with 44% of the responses, was extending duration/increasing credit quality. In contrast, just 30% were shortening duration/increasing credit quality. Most others were making no changes. Advisors are more willing to take on rate risk, assuming the Fed is pausing and maybe even cutting rates in the year’s second half.
According to our Explorer data tool, we also are seeing stronger engagement for intermediate-term and long-term Treasuries on our platforms and less engagement for ultra-short Treasury ETFs. Examples of intermediate or long-term ETFs include the Vanguard Intermediate-Term Treasury ETF (VGIT) and the iShares 20+ Year Treasury Bond ETF (TLT).
For folks that want to take on a little credit risk with investment grade intermediate term — the Vanguard Intermediate-Term Bond ETF (BIV) or the iShares Intermediate Government/Credit Bond ETF (GVI)
are a couple of examples. But before I go too deep into ETFs, Jen, can you help us understand if the inflationary picture or the jobs market is showing sufficient signs of a slowdown that the Fed should be pausing?
Jennifer Nash, economic and market research analyst at VettaFi: This week’s latest jobs market info shows a cooling labor market, with March JOLTS job opening numbers falling to nearly a two-year low. Currently, there are 1.6 jobs available per unemployed worker, a number that has dropped from the 2:1 ratio seen over the past year. However, the numbers are still historically high but at least heading back down. Additionally, yesterday’s ADP employment report showed that annual pay has slowed down, which is consistent with inflationary pressures cooling. I think tomorrow’s more in-depth employment report will be a very big indicator — it currently forecasted that 180K jobs were added last month, which, if correct (or lower), would be the smallest monthly gain since December 2020, so it is definitely a sign of a cooling labor market amidst the raising of rates.
Dave Nadig, financial futurist: One nuance on the jobs data is that it’s really weird right now. Middle America (non-coastal, not middle class) has extreme labor tightness. Any breathing room in the national data has actually come almost exclusively from big cities, technology, mass retailers, etc. So we have this weird mix of tight labor in some places and cooling labor inflation in others. Reading the tea leaves on labor prints is not a super easy week-to-week right now.
Rosenbluth: Thanks Dave, and thanks Jen; good to see you at the water cooler too. When the Fed funds are at a 16-year high, we need many VettaFi Voices to help advisors and asset managers understand what this means for one another.
Powell seemed to be indicating that Fed was more likely to pause rate hikes, but his comments suggested that rate hikes the market expects are not in his and the FOMC mindset.
Nadig: So the headline is the headline: 10th consecutive rate increase. 5.25% puts it at a 16-year high. It’s basically the 1980s all over again. And, of course, this was *entirely* expected. The only question going into yesterday was what the guidance would be, and you really need to use track changes even to tell:
• Fed raises rates by 25 bps as expected
• Policy statement softens the rate guidance in a way consistent with past pauses
• Deletes reference to “some additional policy firming may be appropriate”
• Unanimous decision pic.twitter.com/WJP5tcwAyC
— Nick Timiraos (@NickTimiraos) May 3, 2023
It seems insane, but we’re really at the point where the market is paying attention to the removal of “additional firming” and whether the cut/paste from previous statements suggests a pause. The long and short of it is that, yes, everyone now suspects at least a pause.
So everything is all about what happens next. Payrolls this Friday and CPI next Wednesday are the big ones, but we’re deeply in what Sam Rines of Corbu calls the “Grackle” phase — neither hawk nor dove, but leaving all options open. This creates volatility in monetary policy based on dataflow, and thus all these prints will have a bigger impact than they would have, say, a few months ago when everyone understood the next step.
That next step is now much more unknown; it could be paused and done, paused and cut, or paused and hiked more, and it will all be based on the summer of numbers. People trying to trade headlines for the foreseeable future will make and lose a lot of money.
Rosenbluth: With all options open, Dave, this might make advisors further embrace active core bond ETFs, as they might prefer an experienced management team making the interest rate-sensitive decisions for them and their clients. We could also see advisors shift from some of the popular ultra short active ETFs like the JPMorgan Ultra-Short Income ETF (JPST) and the MINT PIMCO Enhanced Short Maturity Active ETF (MINT) to core and core plus bond funds from the same fund family like the JPMorgan Core Plus Bond ETF (JCPB) and the PIMCO Active Bond ETF (BOND) as well as look to other managers. For example, the Franklin U.S. Core Bond ETF (FLCB) has $1.5 billion in assets.
Nadig: It is ABSOLUTELY not an environment where a part-time portfolio manager should be second-guessing market prices going in and out of payroll, CPI, supply chain, etc. prints.
Rosenbluth: Based on the new LOGICLY data VettaFi acquired a couple of weeks ago, active equity ETFs pulled in more than three times the inflows of active fixed income ETFs in the first four months of the year. That was when the Fed’s moves were well-telegraphed, as you alluded to, Dave. But the next 3–6 months will be anything but.
And now we have so many more active bond ETFs like the Capital Group Core Plus Income ETF (CGCP) from Capital Group, the T. Rowe Price QM U.S. Bond ETF (TAGG) from T Rowe Price, the American Century Multisector Income ETF (MUSI) from American Century that come to mind.
Tom Lydon, vice chairman at VettaFi: The fixed income survey Todd referenced was from the Nuveen webcast yesterday. Here are some highlights:
A year ago, 60/40 was dead. Advisors were deconstructing the iShares Core U.S. Aggregate Bond ETF (AGG) — selling long-dated treasuries, MBS, corporates, and high yields — raising cash positions and allocating to alts.
Today, short-term treasuries are actually paying, but most advisors feel we just top-ticked rates, and these yields won’t be around a year from now.
So, the AGG is back. Advisors are going longer, hoping to lock in high yields instead of being more heavily weighted in short-duration yields and cash. This also gives an opportunity for appreciation in AGG ETFs in the coming year if yields decline.
Set duration corporates and high yield should also be taking on flows as yields are very attractive, taking away further rate hike risk. There is more money in motion with fixed income than there’s been in many years. Issuers feel it and are battling for flows that are moving off of the sidelines.
Rosenbluth: Great to have you at the water cooler, Tom. While I hear you that to gain even more income, advisors might look to take on credit risk with high yield ETFs (the iShares Broad USD High Yield Corporate Bond ETF (USHY) is yielding 8.4% — my goodness), I think there’s still macro uncertainty and fears of a recession. In that webcast you moderated (and I’m sure led a great discussion) very few were willing to take on credit risk.
Lydon: Totally agree, but some are easing in. Those who stayed invested in those areas were creamed, while many sold out over the last 18 months. There’s a chance a recession could cause more damage to the space, but many advisors (we have data on this) believe we will have a soft landing, which is usually good for markets as the Fed will be quick to counterbalance with rate cuts.
For more Fed news, information, and analysis, visit the Fixed Income Channel.
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