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Planning & Economy

Bond Market Commentary

March 14th, 2019

Avoid Wrongful Predictions with Appropriate Asset Allocation

It’s March and that means we’re getting close to filling out our NCAA office brackets. It is a game of prediction to enhance our entertainment value while cheering on our favorite team. We all think we have the winning bracket until a vast majority of us are crushed after the 1st weekend of games is complete revealing just 1 or 2 Final Four survivors.

See if any of these predictions affected your past decision making:

  • A popular 1979 book by a Harvard scientist convinced many that Japan’s economy was soon going to be #1 in the world.
  • In 1999, computers failing to properly read “00” as the year 2000 (Y2K) was going to cripple business.
  • Alan Greenspan (2007) said that the world might need double digit interest rates to control inflation. (At the end of 2008, the Fed kept a zero interest rate policy for 7+ years)
  • Municipal bond defaults totaling hundreds of billions were predicted to occur in the next twelve months (December 2010).
  • Election Day Eve in 2016, Hilary Clinton should win 297 electoral votes versus Trump’s 241 (270 needed for victory).
  • Pre-poll predictions (2016) indicated an 80% probability the UK would vote to remain in the EU.
  • With 2:06 remaining in the 3rd quarter of Super Bowl LI (2017), the Atlantic Falcons had a 98.9% chance to win… they didn’t.

Prognosticating is done for fun but also for business. Did you ever find it odd that we hold our local meteorologist’s feet to the fire if they miss predicting rain but don’t seem to have the same accountability for our doctors or economists? After all, these are the two groups that can arguably protect our physical and financial health.

I have conveniently cherry picked the predictions above to make my point. But is that what conveniently occurs with many predictions or statistical points of view? Picking a specific time period or evaluating a controlled group of data points can often portray designed results. I am blessed to work in the fixed income world, a division that for many investors does not require much prognostication. Think about it. Most of your investments rely on price appreciation to ultimately determine their worth/value. You buy a stock at $100 hoping to sell it $150. You would not purchase a house for $250,000 if you thought it would be worth $200,000 in 5 years. Many investors do not buy bonds hoping for the price to go up. As a matter of fact, the income, cash flow and return of face value on a bond held to maturity is not affected by price changes at all!

The intent is not to diminish the importance of evaluating the economy and the usefulness of assessing current data to determine forward strategy. The point is that so many variables exist and no matter how certain we are of our prediction, there is always risk.

Fixed Income Investing:

  1. Identify acceptable risk factors.
  2. Define desired income.
  3. Create required cash flow.
  4. Identify requisite redemption period.
  5. Create needed liquidity.
  6. Isolate personal biases.
  7. Use an appropriate asset mix. Stay disciplined and do not substitute asset classes based on a moment in time or a prediction.
  8. Diversify within each asset class.
  9. Rebalance when applicable/appropriate.

To learn more about the risks and rewards of investing in fixed income, please access the Securities Industry and Financial Markets Association’s “Learn More” section of investinginbonds.com, FINRA’s “Smart Bond Investing” section of finra.org, and the Municipal Securities Rulemaking Board’s (MSRB) Electronic Municipal Market Access System (EMMA) “Education Center” section of emma.msrb.org.

The author of this material is a Trader in the Fixed Income Department of Raymond James & Associates (RJA), and is not an Analyst. Any opinions expressed may differ from opinions expressed by other departments of RJA, including our Equity Research Department, and are subject to change without notice. The data and information contained herein was obtained from sources considered to be reliable, but RJA does not guarantee its accuracy and/or completeness. Neither the information nor any opinions expressed constitute a solicitation for the purchase or sale of any security referred to herein. This material may include analysis of sectors, securities and/or derivatives that RJA may have positions, long or short, held proprietarily. RJA or its affiliates may execute transactions which may not be consistent with the report’s conclusions. RJA may also have performed investment banking services for the issuers of such securities. Investors should discuss the risks inherent in bonds with their Raymond James Financial Advisor. Risks include, but are not limited to, changes in interest rates, liquidity, credit quality, volatility, and duration. Past performance is no assurance of future results.

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