Eq: Large Cap
On the surface, the last few weeks could not have gone better. Vaccinations are up, inflation worries are down, economic indicators are surging, and earnings are great. This has led to a nice relief rally after a rough later winter/early spring. However, the reality is that the summer may again be a tough time for markets. The reason why—a lot of good news is fully priced in, but bad news no longer is. Think about it: if an incredible piece of news came out today, do you think the market would react as strongly as if a very bad piece of news came out? Your gut is probably telling you the latter would have a much stronger response.
FINSUM: We have to agree that the market has gotten a lot of relief from recent news. But really, it would only take one really bad inflation report to send volatility spiking.
Yields did something very alarming today: they shot up to their highest level in two weeks as a kick-off to summer trading. Yield rises were the epicenter of all the volatility a couple of months ago, and have been the key driver of stock returns as they are the primary asset for pricing inflation risk. So the big question is where will they go from here?
FINSUM: Inflation fears have calmed, but commodities prices are still keeping those worries alive. The Fed seems to hold the key to the whole issue. As long as it walks the line that inflation is transitory, and data at least marginally backs that up, the market will be fine. But if we get a couple suspect reports, and a bad headline or two, all exacerbated by an off-the-cuff Fed remark, we could easily stumble into a correction.
The stock market has been absolutely killed lately, but you wouldn’t know it from looking at bonds. Several high yield indexes have barely budged, despite the big worries over inflation and rates. Why? Aside from some high yield bond mechanics which make them less rate-sensitive, the answer is that investors are very excited about the sector. The market is anticipating a big wave of credit upgrades in the next year, and all investors in the space are trying to buy up the winners (who will jump in value when upgraded).
FINSUM: Earnings are doing well and there is a lot of investor demand for new high yield debt. Junk bonds look like they have a great runway for the rest of the year.
Income is both extremely desired, and very hard to achieve in today’s market. Based on the economic data which hit the morning of the 7th, it seems likely to stay that way. So where are the best places to find income? One of the first places investors think of outside of bonds is the dividend aristocrats, but the bad news is they are only yielding 1.9%. If you need more income, check out high yield bond ETFs like the SPDR Bloomberg Barclays High-Yield Bond ETF (JNK), which yields 4%. But the best bet is to look at bond closed end funds, for example the DoubleLine Income Solutions Fund run by bond legend Jeffrey Gundlach. The fund yields 7.3%.
FINSUM: Bond closed end funds are great. Many trade at a discount to their NAV and they have very nice yields.
Income is scarce and investors need it more than ever (funny how that happens). Bonds look very risky given the direction of rates. So where can investors turn? Take a look at three different asset classes: blue-chip REITs, preferred shares, and property-backed loans. Blue-chip REITs can be a good investment because they have high yields (e.g. 4%+), but are still quality companies. They are also often trading at a discount because of the pandemic. Check out ticker “0”, Realty Income. Private property loans are another good option, yielding 8-12% , and often having good LTVs of around 60%, which means you have some significant downside protection.
FINSUM: These are some good alternative income options. Our personal favorite are the REITs because of their liquidity, but private property loans are a good option too, especially given the new economic cycle.