People's United Bank: Living on a fixed income - WCAX.COM Local Vermont News, Weather and Sports-

People's United Bank: Living on a fixed income

Posted: Updated:
BURLINGTON, Vt. -

The Federal Reserve announced Wednesday it would be scaling back the stimulus as the economy shows steady growth.

It's a sign things are getting better, but it also means those near-record low interest rates may start rising to help us understand what it means, what we should do and how to live on a fixed income. Fixed Income Strategist for People's United Bank Karissa McDonough explains.

Q: How did interest rates get as low as they did and why are we now facing a transition period in interest rates? 

A: The current extremely low interest rate environment is a direct byproduct of the Federal Reserve trying to pull the economy out from the 2008 financial crisis, itself caused by an environment of artificially low rates and mispriced risk. The challenge that the Fed faces today is to return monetary policy to a more normal state (allow rates to rise on their own) and to do so in a manner that doesn't impair sustainable improvement in the real economy.
The degree of monetary stimulus in the global financial system remains significant. This increased liquidity has not found its way into the real economy. The concern for both investors and policymakers is that the longer it takes for this liquidity to feed through to economic growth, the greater the risk is that that liquidity could cause excess valuations in financial assets, similar to what we experienced before 2008.

Q: How is the Treasury-buying program, known as Quantitative Easing, supposed to help heal the economy?

A: The money that the Fed creates goes to bank balance sheets which then has the ability to lend that money out, leading to economic growth. However, while banks are currently in a great position to provide credit, loans are expanding only modestly. The supply of liquidity that the Federal Reserve has injected into the financial system has far outstripped the amount of new lending. There remains $2.4 trillion of cash and excess reserves on the balance sheets of American banks, eight times the pre-crisis level. The increase represents about 75 percent of the increase in the Federal Reserve's balance sheet. Household deleveraging plus tighter controls on underwriting are both serving to limit consumer lending.

If the banking system transmission mechanism is not working effectively, the only option for monetary policy to work to spur the real economy becomes the purposeful inflation of asset prices, primarily housing values, in order to spur business capital expenditures and therefore hiring.

Q: Does the current level of bond market appreciation constitute a bubble and should we be concerned about a pending correction?

A: In a broad sense, we, People's United Bank, do not believe that to be the case.  

Once supportive Fed purchases of Treasuries starts to wind down, and the Fed starts to raise forward guidance on short rates, Treasury bonds at current prices have nowhere to go but down (and yields up).


Q: What are the implications for bond investors during this time of transitioning to likely higher interest rates?

A: As bond investors we need to keep in mind that the two primary goals of fixed income in an investment portfolio are preservation of principal and to mitigate the volatility of the other asset classes. Fulfilling either of these roles becomes commensurately more difficult in the face of a long term secular trend upwards in interest rates. Therefore we need to be additionally considered when constructing a bond portfolio.

Q: What do you recommend bond investors do?

A: People's United Bank recommends reducing the rate sensitivity of bond portfolios through the use of floating rate notes. Floating rate assets are a very effective hedge against rising short-term interest rates and the damage such a move would impose on the principal value of an investment portfolio. The coupons on floating rate notes reset quarterly based on a yield spread relative to high quality short-term interest rates as measured by LIBOR (or a similar index). Therefore, even if rates move significantly during a quarter, these bonds will simply reset their coupon to the same spread over the now higher index rate and the bond price moves back to par.

We continue to like assets that provide attractive income and believe that high yield bonds remain an appropriate place to invest, and a core holding in our portfolios, as long as the credit cycle remains favo rable and companies continue to be able to roll over maturing debt.

We have also recently increased our targeted weight to convertible securities, which are bonds that can be converted to stock. This way, a traditional bond investor gets the potential equity upside while still clipping a favorable coupon, essentially two layers of protection against rate-induced losses in a fixed income portfolio.
 

  

  

 

  • Local NewsMore>>

  • Police investigate Hinesburg woman shot by male relative

    Police investigate Hinesburg woman shot by male relative

    Thursday, April 24 2014 10:08 PM EDT2014-04-25 02:08:02 GMT
    Vermont State Police and Hinesburg police were on the scene at a shooting in Hinesburg at 8:45 p.m. Thursday night.Officials say a 71-year-old man shot a female relative. She was shot in the hand and chest and taken to Fletcher Allen Health Care where she is currently in stable condition.The man is in custody and police say there is currently no motive for the shooting and that there were no prior issues with the relatives.Police are currently still investigating the shooting.More >>
    Vermont State Police and Hinesburg police were on the scene at a shooting in Hinesburg at 8:45 p.m. Thursday night.Officials say a 71-year-old man shot a female relative. She was shot in the hand and chest and taken to Fletcher Allen Health Care where she is currently in stable condition.The man is in custody and police say there is currently no motive for the shooting and that there were no prior issues with the relatives.Police are currently still investigating the shooting.More >>
  • Robber hits the same bank twice?

    Robber hits the same bank twice?

    Thursday, April 24 2014 7:01 PM EDT2014-04-24 23:01:18 GMT
    A security guard and bank manager at the People's United in St. Albans held a would-be robber until police arrived. And investigators think he is the same man who robbed the bank Monday.More >>
    A security guard and bank manager at the People's United in St. Albans held a would-be robber until police arrived. And investigators think he is the same man who robbed the bank Monday.More >>
  • Man shot by Vt. cop faces charges

    Man shot by Vt. cop faces charges

    Thursday, April 24 2014 7:31 PM EDT2014-04-24 23:31:24 GMT
    A man shot by an officer inside the Bennington police station faces charges of aggravated assault with a deadly weapon.More >>
    A man shot by an officer inside the Bennington police station faces charges of aggravated assault with a deadly weapon.More >>
  • Man charged in Vt. teacher killing wants confession tossed

    Man charged in Vt. teacher killing wants confession tossed

    Thursday, April 24 2014 2:29 PM EDT2014-04-24 18:29:39 GMT
    A Vermont man charged with killing a popular St. Johnsbury teacher is asking a judge to exclude from his upcoming trial a detailed confession he gave to police investigators.More >>
    A Vermont man charged with killing a popular St. Johnsbury teacher is asking a judge to exclude from his upcoming trial a detailed confession he gave to police investigators.More >>
  • 2 Vermont men charged in guns and drug case

    2 Vermont men charged in guns and drug case

    Thursday, April 24 2014 2:13 PM EDT2014-04-24 18:13:57 GMT
    Two Vermont men are facing federal charges stemming from the left of firearms from a Hardwick gun store and the trading of some of those guns for drugs.More >>
    Two Vermont men are facing federal charges stemming from the left of firearms from a Hardwick gun store and the trading of some of those guns for drugs.More >>
  • Drug bust in Burlington's Old North End

    Drug bust in Burlington's Old North End

    Thursday, April 24 2014 6:18 PM EDT2014-04-24 22:18:27 GMT
    Police made a drug bust Wednesday night in Burlington's Old North End.More >>
    Police made a drug bust Wednesday night in Burlington's Old North End.More >>
  • Maine wire fraud trial of Vt. man set to conclude Friday

    Maine wire fraud trial of Vt. man set to conclude Friday

    Thursday, April 24 2014 5:49 PM EDT2014-04-24 21:49:11 GMT
    The wire fraud trial of a Vermont man convicted for the 2010 explosion that killed two workers at a New Hampshire gunpowder plant is nearing conclusion.More >>
    The wire fraud trial of a Vermont man convicted for the 2010 explosion that killed two workers at a New Hampshire gunpowder plant is nearing conclusion.More >>
  • 150 doctors targeted by tax fraud in NH, Vt.

    150 doctors targeted by tax fraud in NH, Vt.

    Thursday, April 24 2014 4:45 PM EDT2014-04-24 20:45:08 GMT
    New Hampshire Sen. Jeanne Shaheen has asked the Secret Service and Internal Revenue Service to investigate reports of tax fraud affecting more than 150 doctors and health care providers in the state and in Vermont.More >>
    New Hampshire Sen. Jeanne Shaheen has asked the Secret Service and Internal Revenue Service to investigate reports of tax fraud affecting more than 150 doctors and health care providers in the state and in Vermont.More >>
Powered by WorldNow
All content © Copyright 2000 - 2014 WorldNow and WCAX. All Rights Reserved. For more information on this site, please read our Privacy Policy and Terms of Service.