With higher interests rates and lower bond yields, a change to your fixed income strategy may now be in order
Ric Edelman: Welcome back to The Truth About Your Future. I'm happy to bring on to the program John Maier, the Chief Investment Officer for Global X ETFs.
Jon Maier: Ric, thanks for having me.
Ric Edelman: So let's talk about investment management today. We are in a scenario here in 2022 that is proving to be radically different from the past 50 years. Is the 60/40 still applicable today for an ordinary investor going forward through the rest of this decade? 60 percent stocks, 40 percent bonds?
Jon Maier: We are at an inflection point, at least for a period of time. So right now, Fed policy rates have wide ranging implications for all asset classes and repricing and repricing most fixed income instruments. So since rates can only rise from zero, the outlook for traditional fixed income is currently skewing negative until rates normalize, and that could be quite some time. So interest rates going up a good amount on the, say, 10 year and 30-year Treasury, you're going to lose a good amount of your principal. Going from one to two percentage points is a huge, huge move.
Ric Edelman: What do you mean by that, Jon? If you could lose a huge amount of money if interest rates rise one percent to two percent, on a 10-year Treasury, how much money might you lose if that were to occur?
Jon Maier: Well, I mean, essentially, if you go from one percent to two percent, you could lose like 50 percent of your money.
Ric Edelman: And that's something I think most people don't realize because they consider U.S. government securities to be safe. Do you think that people ought to have as much of their money in bonds right now as they have historically held them in?
Jon Maier: So if you're very short duration, not taking that much risk.
Ric Edelman: In other words, if you buy a AAA-rated one year bond, you probably don't have a whole lot of risk because in one year you're going to get your money back and that AAA-issuer is not going to go broke. But if you're dealing with a Single B 30-year bond, you've got real risks as to whether that bond is going to exist in 30 years.
Jon Maier: Exactly. And in our portfolios, we are short duration where we have some amount of fixed income.
Ric Edelman: So that's the key. You can keep your bonds, just make sure they're relatively short maturities and durations so that they mature in one, two, three, four, five years as opposed to 10, 20, 30 years.
Jon Maier: Yeah, makes perfect sense. And that's the approach that we're taking. But there's also another piece though. Higher interest rate expectations also put downward pressure on the equity valuation, particularly in growth your segments of the market. So the equity portion of your portfolio is not immune to what's going on with respect to interest rates.
Ric Edelman: Because as interest rates go up, borrowing costs to businesses go up and that lowers their profits.
Jon Maier: Exactly.
Ric Edelman: So, what does an investor do then? It seems like heads they win, tails I lose. What is an investor to do? I want to earn income, and these short-term bonds are paying very low yields. I want to have money in stocks, but stocks are threatened by rising interest rate environment. So, what are the alternatives for investors today, particularly retired investors who are looking to generate income off of their portfolio?
2 alternatives for investors in today’s rising interest rate environment
Jon Maier: Higher quality equities. The types of companies that have historically paid and grown their dividends, blue chip type companies, companies with really strong cash flows. That's an area that potentially could be of interest to retirees. Also, something that we focus on at Global X are covered call strategies or collar strategies.
Ric Edelman: Covered call writing sounds a little bit complicated. Can you accomplish this by simply buying an ETF?
Jon Maier: Yeah, we have ETFs here, at Global X that satisfy those needs. In a one ticket item, you buy Tickers QYLD where it's all done for you. And you're getting an income stream of approximately 11/12 percent.
Ric Edelman: Well 11 or 12 percent is a radically bigger number than what you're typically going to find in bank CDs these days. So I would imagine that that could be rather appealing to investors who are seeking current income.
Jon Maier: It's very appealing, but again, there is a risk of downside.
Ric Edelman: And what would trigger that loss?
Jon Maier: Just the markets going down.
Master Limited Partnerships: An option for retirees seeking current income
Ric Edelman: So just because you're getting a high yield doesn't necessarily mean you've got protection. And this is why the notion of these alternative strategies require you to get some education and knowledge and seeking the advice of a financial advisor who can walk you through these steps to help make sure you understand all of this. One of the other challenges I find, John, is that very often retirees are more focused on their current income needs, and they're not really thinking so much about the long-term future. You know, I might be 65, newly retired and need to replace my paycheck because I'm no longer at work, but I'm not really focusing on the fact that I'm going to live 30, 40 years longer. So how do you balance my need for current income with my need to be able to generate income for as long as I'm going to live?
Jon Maier: It's a tough one. I think an investor needs to look at all alternative sources of income. There's MLPs. Right now, energy on a tear because of some of the conflagrations going on around the world. Some of the supply chain issues also. And because the cost of energy is embedded inflation metrics, this sector benefits in this current inflationary environment.
Ric Edelman: Well talk about, explain to everybody what an MLP is, a Master Limited Partnership. What is that?
Jon Maier: We have a master limited partnership that covers exploration, storage and distribution of energy like crude and natural gas that stands to benefit from higher energy prices. And MLPs tend to have high yields because of the way they're structured from a taxation perspective. So MLPs must distribute 90 percent of their income in the form of dividends in order to maintain their preferential tax treatment, similar to the REITs. If you want to look at it that way.
Ric Edelman: REIT is a real estate investment trust. So, in other words, if you're looking for yield, don't just go to the natural place where we've gone over the last several decades - bonds, consider alternatives such as energy or real estate. What kind of interest rate would people expect to be able to generate from an MLP these days?
Jon Maier: About seven percent or so.
Ric Edelman: Which again is a lot higher than what you're going to get in a typical bank CD? And again, I'll ask you, do you have to go buy MLPs or REITs directly on your own? Or are they available through an ETF?
Ric Edelman: So, this is just illustrative that there are investment opportunities designed to cope with today's investing world. Today, the environment is very different of what it has been over the last decade, and we can't just have a 'set it and forget it' approach because the investments that we used over the last 10 or 20 years that we used very successfully, aren't necessarily designed to achieve success in the 2020s. And this is why we need to take a look at alternative ideas that can respond to today's economic environment of rising interest rates, rising tax rates, rising inflation rates and the desire, the need to generate income and to consider a juxtaposition of the traditional 60/40 portfolio. If you'd like to learn more about the ETFs that are available at Global X, you can do so simply by going to GlobalXETFs.com Or talk to your financial advisor. That's John Maier, the Chief Investment Officer of Global X. Thanks, Jon, for joining us on the show.
Jon Maier: Thanks, Ric. Appreciate being here.