Bond-focused exchange-traded funds (ETFs) have been facing difficulties recently, but that hasn’t deterred investors. The iShares 20+ Year Treasury Bond ETF (TLT) has experienced a 7.8% loss this month, yet it still managed to attract $357 million from investors on Tuesday, making it the largest daily inflow since September 14. This marks the third consecutive day that the ETF has garnered capital.
The slump in ETFs that buy long-term Treasuries can be attributed to the surge in bond yields following the Federal Reserve’s decision earlier this month, which indicated that interest rates may remain higher for a longer period to combat elevated inflation. However, BlackRock’s senior iShares investment strategist, Kristy Akullian, finds the “belly of the Treasury market’s yield curve” more appealing.
Akullian believes that the three-to-seven year part of the curve is the sweet spot. In line with this, the iShares 3-7 Year Treasury Bond ETF (IEI) witnessed its largest inflow since July on Tuesday, attracting $170 million from investors for the third consecutive day. Compared to the larger iShares 20+ Year Treasury Bond ETF, IEI has performed significantly better this month, only experiencing a 1.4% decline.
While investors have been showing interest in the short-end of the yield curve due to attractive rates above 5%, many are considering a move into longer-term Treasuries. According to Akullian, there is a desire to step out of cash and add some duration in the belly of the curve. She emphasizes the importance of being early rather than late in this shift.
The End of the Fed’s Hiking Cycle: What it Means for Investors
As the Federal Reserve (Fed) has steadily increased its policy interest rate since early 2022 in an effort to combat inflation, market sentiments suggest that the central bank may be nearing the end of its hiking cycle. The surge in the cost of living has shown signs of easing over the past year, leading many investors to anticipate a slowdown in the rate hikes. In fact, some predict that the Fed may even begin lowering rates in 2024.
The potential shift in interest rates is expected to have a direct impact on various assets, particularly those with longer durations. Jennifer Akullian, a prominent expert in the field, expresses her optimism about this shift, stating, “When the Fed does start to cut interest rates, we’ll see a positive price appreciation in longer duration assets. In cash, you’re not getting any of the price appreciation, you’re just getting yield.”
Akullian also asserts that there is room for long-term Treasury yields to rise. She believes that investors may demand higher yield to compensate for being locked into longer-term investments. Additionally, she points out the challenges posed by deteriorating fiscal conditions in the U.S. and the Fed’s ongoing quantitative tightening program, which involves allowing its held Treasuries to mature each month.
Despite potential uncertainties, certain exchange-traded funds (ETFs) that hold cash equivalents like Treasury bills have remained in positive territory this month. One such example is the iShares 0-3 Month Treasury Bond ETF (SGOV), which has achieved a total return of 0.3% in September, according to FactSet data. This performance is noteworthy considering that three-month Treasury bills (BX:TMUBMUSD03M) are currently yielding 5.49%, a significant increase compared to near-zero yields in late 2021 before the Fed began aggressively hiking rates.
On the longer end of the yield curve, the rate on the 10-year Treasury note (BX:TMUBMUSD10Y) experienced a surge of 6.7 basis points on Wednesday, reaching 4.625%. This marks the highest level seen since October 16, 2007, based on 3 p.m. Eastern Time levels, as reported by Dow Jones Market Data.
In conclusion, the Fed’s potential decision to cut interest rates holds promising implications for investors. While longer duration assets may experience positive price appreciation, cash investments might fall short in this regard. The adjustment in Treasury yields and the ongoing market trends will need to be carefully monitored by investors eager to navigate these changes in the financial landscape.