The least damaging way to hold fixed income when interest rates are rising is to stick to short-term bonds.
Long-term bonds fall the most in price when rates rise, a point that is driven home nicely by the performance of the BMO Long Federal Bond Index ETF (ZFL-T). The loss for the 12 months to Feb. 28 was 16.2 per cent, bad enough to drag the annualized five-year result to a loss of 1.8 per cent.
There’s $2.1-billion in ZFL right now, which is a lot. What can investors be thinking?
Here’s what: When interest rates level off and begin to fall, ZFL is an ideal way to play the rebound. We saw this happening on Monday, when bond prices soared in the aftermath of the collapse of Silicon Valley Bank. The reason why ZFL is a prime way to exploit a bond rebound is that its portfolio consists of long-term federal government bonds, which have been the biggest losers on price in the past year or so.
Prior to the SVB collapse, there was already reason for optimism that long bonds have rebound potential. We started 2023 with expectations of lower rates‚ which then turned to concern that inflation wasn’t going away as quickly as hoped. Bonds gained some ground, and then lost most of it. Still, ZFL was up 1.4 per cent for the first two months of the year. That’s better than the broad Canadian bond market, which was up 1 per cent.
ZFL is vulnerable if inflation is sticky enough to require further interest rate hikes. Whatever declines there are in the broad bond market will be magnified in ZFL. But for a total return based on unit price changes plus bond interest, ZFL looks interesting.
By the way, the after-fee yield to maturity for ZFL is about 3.1 per cent. That’s lower than the broad bond market, a quirk resulting from the fact that shorter-term bonds yield more than longer term bonds right now. This inverted yield curve is common when markets worry about recession risk.
A few other established spins on long-term bonds: The BMO Long Provincial Bond Index ETF (ZPL-T), BMO Long Corporate Bond Index ETF (ZLC-T), Invesco Long Term Government Bond Index ETF (PGL-NE) and TD Canadian Long Term Federal Bond ETF (TCLB-T). For a mix of long-term government and corporate bonds, there’s the iShares Core Canadian Long Term Bond Index ETF (XLB-T) and the Vanguard Canadian Long-Term Bond Index ETF (VLB-T).
The reason to consider some corporate long bonds is for extra yield. The after-fee yield to maturity for ZLC is 4.8 per cent.
-- Rob Carrick, personal finance columnist
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Stocks to ponder
Jamieson Wellness Inc. (JWEL-T) This beaten-down dividend stock is down 14 per cent year to date, making it the worst performing stock in the S&P/TSX consumer staples index. The stock is now in deeply oversold territory from a technical perspective. And that might be an opportunity. Historically, dips have represented buying opportunities for this stock. Jennifer Dowty looks at the investment case.
The Rundown
The takeaway for investors from the SVB crisis? Get ready for deflation, more pain in stocks, and a rally in long-term bonds
In the wake of the government rescue of Silicon Valley Bank depositors, the rates cycle is about done and bond yields have likely peaked and on course for a classic recession-induced bull market. David Rosenberg warns that any rebound in equities will be short-lived because the earnings downturn has commenced and has much further to run.
Related coverage:
Credit markets suddenly price in Bank of Canada rate cuts this year, bond yields plunge
Market stress indicators begin to flash in wake of SVB collapse
What the Street is saying as bank stocks tank, markets rethink rate-hike path
Do share buybacks benefit investors? Warren Buffett thinks so
It appears 2023 will be a record year for buybacks as the U.S. companies in the S&P 500 are projected to spend more than US$1-trillion for the first time in a calendar year, according to S&P Dow Jones Indices. Do investors benefit from this? Generally, yes, but not as much as you might think, says Gordon Pape.
The Frugal Dividend portfolio can help investors find stock bargains
The Frugal Dividend portfolio provides an example of a portfolio stuffed full of stable dividend payers trading at reasonable prices. Norman Rothery explains how this strategy works. And here’s the current stocks that comprise this portfolio and others that Norman advises watching.
Three mysteries at the heart of the market and what they mean for investors
Three mysteries lie at the heart of today’s economy, Ian McGugan says. Investors may want to spend a moment pondering them because how these puzzles resolve themselves will have a lot to say about where the market goes next.
Others (for subscribers)
The most oversold and overbought stocks on the TSX
Monday’s analyst upgrades and downgrades
Monday’s Insider Report: CEO makes a million-dollar purchase in this oversold bank stock
Globe Advisor
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Ask Globe Investor
Question: In February, 2022, I bought 47,500 units of the iShares Canadian Financial Monthly Income ETF (FIE), which provide me with $22,800 in distribution income annually. Unfortunately, the unit price has fallen, and I have an unrealized capital loss of $60,000 (or a net loss of $37,200 if I factor in the distributions already received). My question is: Should I hold the ETF for another year or two so I can make up the capital loss with additional distributions, and then sell my units? Is my thinking rational? I’m a retiree and love the monthly cash flow, but I want to sell without losing too much and get more diversified with individual dividend-paying stocks.
Answer: It’s hard for me to provide specific guidance without having a complete picture of your financial situation and the rest of your portfolio. But I’ll provide some general comments that I hope will clarify matters so you can come to your own conclusion. My full response can be found here.
--John Heinzl
What’s up in the days ahead
Inflation data on deck for markets hit by worries about Fed, banks
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Compiled by Globe Investor Staff
Rob Carrick