Equities vs US Treasuries: Which is a Better Investment Option?

In light of the Federal Reserve's adoption of a hawkish monetary policy, the investment landscape has witnessed a retreat from long-dated assets such as US treasuries, resulting in a notable decline in bond prices. The current 4.5% yield on 10-year Treasury bonds raises the pertinent question of whether this presents an attractive opportunity to engage in fixed-income instruments and money market funds focused on US treasuries. However, the appropriateness of this investment strategy is contingent upon individual risk appetites.

For investors, particularly those with a high-risk tolerance like myself, the allure of investing purely in US treasuries for cash management must be scrutinized in light of its limited potential for attractive long-term returns. Instead, the enduring appeal of equities persists, offering the most favorable returns over an extended time horizon.

Examining the trio of assets – equities, bonds, and cash – reveals that while cash and money market instruments may seem appealing at current yields, they historically underperform over prolonged periods. In contrast, equities, despite being inherently riskier, consistently outperform the other asset classes due to the principle of risk-reward.

The decision to invest in bonds, however, merits consideration due to their lower sensitivity to price changes compared to equities. Bonds tend to outperform during market selloffs and economic recessions, as exemplified by their resilience during the Covid-19 market crash when equities faced more substantial drawdowns.

The critical question then becomes whether we are on the cusp of a recession. Despite the Federal Reserve's decision to raise interest rates to 5.25%, the US economy has exhibited resilience, buoyed by robust consumer spending. Despite geopolitical tensions, macroeconomic uncertainty, and the ongoing Russia-Ukraine conflict, the US economy expanded by an impressive 4.9% in the last quarter. Leading indicators, such as the Composite PMI, remain robust, showing no signs of weakness. Additionally, while inflation has reached the Fed's target of 2.5%, core inflation trends downward, supported by weakened demand for crude oil.

Assuming the US economic data continues to display resilience and inflation maintains its downward trajectory, the Fed may contemplate interest rate cuts in 2024. Historically, lower interest rates correlate with increased public spending and business growth, leading to a rise in stock prices.

US treasuries emerge as a strategic cash management tool for investors, providing short-term returns while awaiting potential corrections in stock prices. A notable example is Warren Buffett's Berkshire Hathaway, which has recently reduced its equities position while increasing investments in US treasuries to over US$147 billion. This strategic move by Buffett suggests a perceived lack of current investment opportunities, possibly indicating an anticipation of a market correction before re-entering equities.

The question of market valuation is crucial, with the current P/E ratio of the S&P 500 index standing at 24.59x, above its median value of 17.86x. This surge is primarily attributed to a stock market rally centered around the 'Magnificent Seven' stocks. While these stocks have surged over 64% year-to-date, the remaining 493 companies in the index have only experienced a 6% uptick and are yet to partake in the rally. This dichotomy implies that these 493 companies remain relatively inexpensive, presenting attractive investment opportunities should earnings recover in 2024.

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In conclusion, while the allure of a 4.5% yield on US treasuries may be tempting for certain investors, a comprehensive evaluation of risk appetite and market dynamics is essential. Equities continue to hold promise for superior long-term returns, and strategic investments in US treasuries can serve as a prudent cash management strategy amid market uncertainties. As the market evolves, astute investors may find opportunities in undervalued stocks, emphasizing the importance of a diversified and adaptable investment approach.

@TigerStars @CaptainTiger

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