This morning, we received the September Nonfarm payroll report (i.e., jobs/unemployment report) that showed the U.S. economy added only 29,000 jobs last month – which was woefully under the 84,000 economists expected. The unemployment rate rose to 4.2% in September after holding at 4.1% for two straight months, while wage growth actually grew by 0.1% (or 5 cents) on a monthly basis.
Although September’s gain of 29,000 jobs was disappointing, the report immediately pushed Treasury yields lower while equities surged at market open. This is a classic case of bad news being good news. Over the last 7 months, yields on Treasuries began creeping up, driven by geopolitical conflict, rising oil prices, sticky inflation readings and stronger than expected economic data. As of yesterday, the yield on the 10-year Treasury surpassed 5.30% -it’s highest level since 2002. Rates rising this quickly can wreak havoc on financial markets and while disappointing on the job front, it’s welcomed relief on the rate front.
Although yield fluctuations are normal, a rapid rise can increase borrowing costs, slow consumer demand and slow economic growth. Higher rates can also compress corporate profit margins, constrain earnings-per-share growth (which we know is the true driver of long-term share price growth) and in a worse-case scenario trigger a material equity sell-off.
Another unexpected benefit of this morning’s disappointing report is that it gives the Federal Reserve sufficient reason to hold short-term interest rates steady rather than raise them by another 0.25% at its October 28th meeting.
While our notes typically focus on the sexier side of investing with stocks, P/E multiples, PEG Ratios and the direction of equity markets, the current interest-rate environment makes this a timely opportunity to discuss our fixed-income, or bond holdings.
As a reminder, bond prices and yields move in opposite directions: when yields rise, bond prices fall, and vice versa. Over the past several months, our individual bond holdings have experienced modest price declines. However, these price changes do not affect the interest income paid into portfolios because we purchase bonds with fixed coupon rates (there are exceptions but it’s rare).
When we buy corporate bonds for your portfolio, we focus on high-quality, low-risk companies and aim to purchase the bonds at their face value -or, what the industry calls “PAR”.
Think of PAR as 100% of the bond’s original price. Even if we purchase a bond at a slight discount (like 98 or 99) or a small premium (like 101 or 102), the company is obligated to pay back the full 100% face value in cash when the bond reaches its maturity date. Your initial investment is returned directly to your account upon that maturity date (barring a default).
Because interest rates are unpredictable, we use a strategy called “laddering.” This simply means we space out the maturity dates of your bonds across a typical 5 to 7 year (intermediate) time frame. This way, we have a consistent flow of cash returning to your account at regular intervals, giving us ongoing opportunities to reinvest, in this case at higher yields or in the event of a temporary stock market correction we can use the cash proceeds to purchase/add to your equity holdings at a discount.
Yes, buying and laddering out individual bonds within accounts is incredibly more labor intensive than buying a bond fund or bond ETF, but it gives us more control and greater principal protection in a rising rate environment.
Third quarter corporate earnings season officially kicks off on October 13th, with many of our largest equity holdings, such as JP Morgan Chase, Goldman Sachs, Morgan Stanley, and Taiwan Semiconductor being among the first to report.
Much like last quarter, we anticipate earnings results will range from solid to exceptional, providing healthy support for current equity valuations. Barring any unexpected economic or geopolitical surprises, this momentum sets us up for what should be a strong finish to the year.
Of course, we know the final three months of the year have the potential to throw us a few curve balls. As such, we remain fully prepared to adjust our approach whenever conditions warrant.
As always, we wish you and your family a great Friday evening, and a wonderful weekend!
Please reach out to us with any questions or comments you may have regarding your specific situation.
Jaran C. Day, Chief Investment Officer
Griffin Dalrymple, CFP®, Chief Strategy Officer
Past performance is not indicative of future performance.
The views expressed represent the opinion of Opinicus and are subject to change and are not intended as a forecast or guarantee of future results. This material is for informational purposes only. It does not constitute investment advice and is not intended as an endorsement of any specific investment. Statements of future expectations, estimates, projections, and other forward-looking statements are based on available information and Opinicus’s view as of the time of these statements. Market performance cited is not indicative of portfolio performance experienced by portfolios Opinicus manages. Accordingly, such statements are inherently speculative as they are based on assumptions that may involve known and unknown risks and uncertainties.