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Cash Advantage

Published by: Nathan Smith Date: May 20, 2018

This year marks ten years since the financial markets nearly seized up in the aftermath of the banking crisis. In the ten years since the crisis, the stock markets have recovered all of their losses and then some. Now for the first time since 2008, cash rates, as measured by short term U.S. Treasury bills that mature in three months, are yielding more than the S&P 500 Index dividend yield.

 

 

Practically, what this means is that holding bonds now pays more than holding stocks, and with much less risk. Bonds have historically proven to be much less risky in terms of the potential for capital losses than stocks. The most recent example being 2008, while stocks lost 37%, bonds were up 5% during the year. The flip side to this is that bonds don’t have the ability to appreciate in the same way as stocks as witnessed by investors in the aftermath of the financial crisis in 2008.

 

So now that bonds are yielding more than stocks, should investors look to swap their stocks for bonds?

 

The natural reaction of many investors to any piece of news that says “not since 2008” carries some very negative connotations. While the chart above shows the last ten years of data, it is giving an incomplete picture of the relationship between bond and stocks. Throughout most of history, except during the recession in the early 2000’s, bonds had higher yields than stocks. The last 10 years by comparison have been the exception to the rule and not the rule by historical standards. The chart below shows a longer time frame going back to the early 1970’s.

 

 

The difference in yield has merely come back into alignment after nearly ten years of interest rates being held below their natural rate by the extraordinary policy measures enacted by the Federal Reserve. So as investors, we should take this data point as another confirmation that the financial markets are behaving as they normally should and that the balance between stocks and bonds in respect to their difference in yields has come back into its historical alignment. It doesn’t necessarily mean that another crisis is in the immediate future, and that investors should take immediate action to protect their portfolios. The only time dramatic shifts should take place in a portfolio is when the circumstances surrounding your financial life change significantly.

 
Nathan Smith is Portfolio Manager at Rather & Kittrell, and can be reached at nsmith@rkcapital.com.