For now, the Federal Reserve has chosen to pivot away from its focus on COVID recovery, instead turning its attention to inflation, which it says is no longer “transitory.” Federal Reserve Chair Jerome Powell has taken a hawkish turn, commenting that the Fed would discuss accelerating its plan to end tapering in its meeting this month, injecting increased volatility into markets already grappling with Omicron variant fears and uncertainty, reports CNBC.
Just because the Fed is considering and most likely will be tapering COVID bond purchases on a faster timeline than originally announced doesn’t necessarily equate to a faster timeline for interest rate increases, particularly if Omicron ends up having long-term effects that delay rate raises, said Tom Lee of Fundstrat Global Advisors.
“Powell is catching up to Fed members and acknowledging we won’t see a peak in inflationary pressures in the next month or so, but I don’t think that means we are intractably setting up for higher levels of inflation,” said Lee.
Even if interest rates begin earlier, there is no guessing the trajectory with which they will rise; earlier rate increases do not necessarily equate to aggressive ones, argued Meghan Shue, head of investment strategy at Wilmington Trust Investment Advisors.
“If it ends up being an earlier start to hiking rates but a shallower rate hike cycle, that’s a better outcome for the market,” Shue said. “An earlier start to rate liftoff doesn’t mean aggressive hiking. That is an environment in which the market can continue to do well.”
Short-Duration Bonds a Great Solution for Interest Rate Uncertainty
Short-term bonds are a great solution for investors looking for a bond vehicle that is less affected by interest rate changes than its long-term counterparts. With so much yet unknown about the Omicron variant’s potential impact, as well as how the Fed will approach interest rate increases next year, investing in short-duration bonds could prove to be a great hedge against equity market and interest rate uncertainty. It’s during these times of market uncertainty that a move to ultra short-term bonds allows investors the chance to continue to be active in markets, thereby opening themselves to potentially earning higher yields versus simply moving to cash.
The recently launched T. Rowe Price Ultra Short-Term Bond ETF (TBUX ) currently has a weighted average maturity of 1.34 years and a weighted average duration (the marker of interest rate sensitivity) of just 0.65 years. TBUX seeks high levels of income that are consistent with low volatility of principal value by investing primarily in investment-grade, short-term securities.
The fund invests in investment-grade corporate and government bonds; this includes mortgage-backed securities, municipal securities, money market securities and bank obligations, and securities from foreign issuers.
TBUX can purchase bonds that have an effective maturity of up to five years, but the dollar-weighted average effective maturity for the fund will be 1.5 years or less under normal conditions.
The fund is actively managed and carries a net expense ratio of 0.17%.
For more news, information, and strategy, visit the Active ETF Channel.