SGOV: Short End Still Looks Attractive As Fed Cuts

seekingalpha10-23

iShares 0-3 Month Treasury Bond ETF offers a low-risk, short-term investment with a 0.07% expense ratio and a 4.43% return since December 2023.Despite lower nominal yields, short-term government bonds...

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This ETF gathered $26 billion in assets under management (up from $17 billion last year). It serves to buy and hold U.S. treasuries with only a few months until maturity. It has a 0.07% expense ratio, which seems quite reasonable to me. Interest is distributed monthly. This ETF returned 4.43% since my last article, dating back to December 2023. Slightly disappointing but, in terms of real yield (after inflation) it did better than I expected at that time. Inflation has pretty much continued to come down. Data by YCharts In the article, I concluded: \"Probably a lot of long bond positions will work in the near term, but I'm okay making 5.4% more or less risk-free.\" Today, the yield isn't as high in a nominal sense. The curve clearly shifted. The front end is down quite a bit. At the longer end, it is down substantially compared to last year: U.S. yield curve (ustreasuryyieldcurve.com) If you think about the return from a real return perspective, the front hasn't moved all that much. However, I'd argue we're now closer to the point where we could see a resurgence in inflation. I don't mean to say it is likely to flare up anytime soon. Energy prices are low, inflation is trending down, and employment is now a larger concern to the Fed. But the Fed has been signalling it will ease up on QT going back to June, and it is expected to continue to taper into 2025. Studies suggest QT is in some ways equivalent to hiking rates. It follows, less-QT has a stimulative effect. The first real 50bp cut is now also in the rearview mirror. Everything is pointing towards a benign inflation path now, but increasingly it will take less and less kindling to reignite the fire. The next Fed meeting is 16 days from now. The market is pricing in a ~90% probability of a 0.25 BP cut and a ~10% probability of no change (see CME FedWatch tool below): Fed RateWatch Tool (CME) I think the odds of no change should be slightly higher because the economic data coming out after the last Fed meeting wasn't all that bad (retail sales were solid) most importantly; jobs were surprisingly strong and geopolitics have (so far) not spiraled out of control further. If I take all of this together, short-term government bonds still look like a relatively attractive proposition to me in the short to medium term. This should deliver 4.6% of nominal returns on an annualized basis. Meanwhile, there's no real credit risk at this point. I get that the 10-year at 4.18% is quite attractive as well. If rates are cut aggressively, the 10-year will look much better in retrospect. But if inflation resurfaces, the 10-year will get hammered. In the near term, it even suffered as rates were lowered. To trade at 4.18% the market figures the Fed is likely to be between 300-375 on the Fed funds rate at the end of next year: FedWatch tool (CME) In other words, the 10-year is more or less counting on something like 150bp of cuts. Not exactly, but that's how I think about it. This looks overconfident to me. Especially, given the recent data. I'm interested in locking in rates for longer at some point, but not right now. A 4.6% (likely declining) yield seems better. Investment-grade bonds offer only a slight premium (trading at a yield of around 4.85%). These come with duration risk similar to bonds in addition to their credit risk. High yield is a completely different risk, but rarely has the spread to treasuries been this low: High yield spread (FRED)  Asset classes I do kind of like at this point include equities, gold, and bitcoin. However, these have a completely different risk profile. If I wanted to have an allocation to a vanilla fixed-income option, I'd still favor the short end, even though the yield curve has shifted quite a bit since my last write-up.","kind":"highlight","is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"0","news_tag":"analysis","news_rank":0,"symbols":[],"gpt_button":0},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.3","shortVersion":"4.29.3","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2477284463"}