If the global economy is weakening – if the weakness is likely to drag on U.S. corporations – then what is the justification for buying more U.S. stock? Some claim you should buy U.S. stock because of a strengthening domestic economy. Yet the housing market is actually struggling, with homebuilders in the SPDR S&P HomeBuilders (XHB) unable to capitalize on 2014’s declining interest rates. Labor force participation and inflation-adjusted wages have also failed to pick up.
So again, why buy stock? The reason that many will buy U.S. stocks with additional cash resources is the same reason that U.S. corporations have been buying back their own shares with corporate debt. Specifically, most remain confident in the Fed’s ability to restrain, contain and manipulate lending rates. Additionally, rising rate fears are overblown. Members of the Fed do not wish to rock the rate boat at a time when the global financial system is noticeably fragile.
In essence, if you have accepted the premise that “stocks are the place to be” in a low rate environment, you might as well stick to your premise. Rates are lower than they were at the start of 2014, and they are extremely likely to remain subdued.
Of course, it may be more intriguing to investigate what the current bond dip has to offer. Investors with cash – either from sidelined dollars or from portfolio trimmings – should look at the opportunities on the long end of the bond curve. Not only did the U.S. Treasury experience significantly higher-than-average demand at its most recent 30-year bond auction, but long-dated maturities yield significantly more than comparable European sovereign debt. The 30-year German bund? Roughly 2%. The 30-year U.S. Treasury? About 3.3%.
Few supported my “bonds-are-going-to-beautiful” thesis at the start of the year – that interest rates would fall, not rise, in 2014. Yet those who recognized the potential in funds like Vanguard Long-Term Bond (BLV) and Vanguard Extended Duration (EDV) have better year-to-date gains in the bond portion of their overall portfolio than the diversified stock portion.
Before and after chairwoman Yellen speaks this week, you may see bond prices fall (and yields climb) yet again. Still, you should be a net buyer of the Fed Reserve’s monetary policy news, as the attractiveness of long bonds will not dissipate anytime soon. They’ll still be attractive relative to sovereign debt around the globe. They’ll still be viewed as a safer haven against escalating geopolitical risk. And long maturity bonds tend to rise in a corrective stock phase – an event that has a high probability of occurring in the remaining months of 2014.