Investing professionals are paid to worry — not necessarily about whether they left the stove on or whether the boss will like their new shoes, but what’s happening on Wall Street. In the world of stocks and bonds, successful pros need to be concerned about what could go wrong with their investment decisions.
And there’s a lot to think about. Here are the biggest things that investment professionals lose sleep over today:
Will there be a trade war? “Anything that could inflame trade relationships could be an upset,” says Jack Ablin, chief investment officer at BMO Private Bank in Chicago. “I don’t think there is a single economist who believes tightening trade is good for the economy.”
President Donald Trump says he wants to renegotiate trade deals the U.S. has around the world. Since the start of his administration, the U.S. withdrew from the Trans-Pacific Partnership and threatened to pull out of the North American Free Trade Agreement, slapped tariffs on imported lumber from Canada, and more recently on washing machines and solar panels.
[See: 10 Long-Term Investing Strategies That Work.]
The concern is that other countries will retaliate with their own tariffs, triggering a few rounds of tit-for-tat retaliation.
“Trade sanctions are real in terms of their impact on earnings and a problem,” says David Nelson, chief strategist at Belpointe Asset Management in Greenwich, Connecticut. “China seems willing to go that route and retaliate.”
But no one really wins in a trade war because global economic growth dramatically slows. Such a thing happened in the 1930s as a result of the Smoot-Hawley Tariff Act in the U.S. It was bad for stocks in general.
For most people, keeping investments in at least some stocks makes sense over the long term. But you can consider reducing your stock exposure to a level where it can be left for a long period if you’re worried about a trade war. For instance, if you hold 70 percent in stocks, reduce it to 60 percent.
Interest rates are going higher. Interest rates have been falling steadily for decades. The yield on the 10-year U.S. government bond peaked in 1981 at more than 15 percent, according to data from the St. Louis Federal Reserve. It was yielding 2.66 percent recently and was as low as 1.37 percent in 2016.
However, that drop in yields could come to an end soon, says Rick Bensignor, founder of Intheknowtrader.com and veteran of financial markets.
[See: 7 of the Best Bank Stocks to Buy for 2018.]
The Federal Reserve is starting to unwind its bond-buying program, which it started after the 2008-2009 financial crisis. Also, U.S. growth is accelerating. Both will push rates higher.
Bensignor says that if the rate on the 10-year bond closes above 2.72 percent at the end of a month, then the bull market in bonds will be definitively over and rates will start to trend up once again.
But when interest rates go up, bond prices tend to go down. That means bond investors might get hit with losses. The longer the period it is until a specific bond matures, the greater will be the fall in price. Ten-year Treasurys would see bigger falls in price than five-year Treasurys.
If you own substantial holdings of bonds you could decide to hold them to maturity. That means you would get back the face value of the bond. However, depending on the duration of the bond that could be many years.
However, you could avoid the immediate price drops that by selling longer-term bonds and buying shorter-term ones. For instance, switch out of the Vanguard Long-term Corporate Bond exchange-traded fund (ticker: VCLT) and buy the Vanguard Short-term Corporate Bond ETF ( VCSH).
The long-term bond fund holds bonds with an average time to maturity of more than 23 years, whereas for the short-term bond fund the figure is three years. Both funds hold high-quality securities and have annual expenses of 0.07 percent, or $7 per $10,000 invested. Over the last year, the funds have returned 9.45 percent and 1.69 percent, respectively.
Will it be bad for stocks? Quite the opposite, perhaps.
“The recent rise in 10-year yields and the concurrent steepening of the yield curve is being driven by an increase in real [inflation-adjusted] yields,” analysts at London investment service TS Lombard say in a recent report. “That is a positive signal for growth and, in turn, for equities.”
[See: 11 Steps to Make a Million With Your 401(k).]
A steep yield curve is one where longer-term interest rates are higher than short-term interest rates. Rates increased from 1.37 percent in July 2016 to 2.66 recently.
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What Really Worries Wall Street Analysts? originally appeared on usnews.com
