Fixed Income Environment: Cash, Short-term Bonds Most Attractive

by: J.D. Steinhilber

Cash and short-term bonds continue to look like the best options in fixed income markets [click for larger version]:

The yield curve is too flat to induce us to take more interest rate risk in our model portfolios. We anticipate no further flattening of the yield curve. Rather, we expect either an upward parallel shift in the yield curve over the coming months, or, more likely, a steeper yield curve due to stabilizing short-term rates and rising long-term rates. We continue to view low long-term yields as a powerful stimulant to growth and a contributor to inflation pressures, rather than a sign of economic weakness and well-contained inflation pressures, which is the inference many are drawing from the flat shape of the yield curve. [click for larger version]

Bond prices will soon be challenged by a huge amount of new supply. Over the next several weeks, the Treasury is expected to issue $100 billion in longdated bonds, the largest issuance of new government bonds in a one month period in ten years. The last time so much new supply came onto the market in 1996, 10-year yields rose 1.4% in just four months. [click for larger version]

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