At the end of the year, it is always an interesting exercise to take a look back at the investment landscape and the lessons to be gleaned from the behavior of markets and participants.
Bond(s), long bond(s)
With apologies to Ian Fleming, bond forecasting has been about as elusive as 007 himself. At the beginning of the year, this Wall Street Journal headline voiced a common expectation for 2014: “Treasury Yields Poised to Resume Upward March in 2014.”1
Each month, the WSJ surveys 50 economists (who hail from top investment banks, business schools and economic consulting firms) for their forecasts on a number of economic indicators.
One of the indicators is the yield on the 10-year Treasury note, which stood at just over 3% at the end of 2013. In the publication’s January 2014 survey, the average prediction for what the yield would be in December 2014 was 3.24%. Forecasts ranged from 5.20% on the high side to 2.75% at the low end.2
Where are we now? Drumroll, please…the 10-year Treasury yielded a meager 2.10% at the market close on December 12. That is a big miss for the experts.
Bond escapes once again.
While the extent of the miss may be more extreme compared to previous years, the result is not unusual. Economic forecasts are notoriously inaccurate. If these supposed experts are incapable of seeing the future, how can the average investor be expected to position a portfolio to take advantage of what is going to occur?
The simple answer, we believe, is he can’t. In this case, what was expected to occur was a rise in interest rates with anticipated growth in the economy and the winding down of the Fed’s stimulus program. An investor might have reduced bond exposure in such a scenario, given the nearly unanimous outlook for higher rates and thus lower bond prices.
The Elusive 007
And that investor would have been dead wrong. Just when everyone thinks they have Bond(s) cornered, seemingly unable to escape the forces of easy money and higher inflation around the bend, yields head back down and Bond lives to see another day.
Through the end of November, bonds (as represented by the Barclays Aggregate Index) have been one of the better performing asset classes, posting a year-to-date gain of 5.9%, which falls behind U.S. large-cap stocks (+14.0% as represented by the S&P 500 Index) but ahead of small-cap, international-developed and emerging-markets stocks. Long-term Treasuries were up 21.5% through November 30. Be careful betting against Bond(s).
That is precisely why it can be better to maintain diversified exposure across asset classes in an allocation designed to meet their goals over the long term. Not a sexy approach, and not as appealing as the idea that an all-knowing advisor (economist?) will deftly move you from top performer to top performer, allowing you to beat the market and avoid declines. But, one that allows you to participate when developments confound expectations, which ends up being most of the time.
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