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To their credit, iBonds do have a clever name. They have the "i" tucked on there for "inflation," and they are riding the coolness coattails of Apple products. So the naming team deserves credit!
For the most part we don't recommend iBonds, but they're not confined to the annuity-whole-life-insurance bin of despair either. They were popular in 2022 given their 9%+ rates of return. Let's look at them now, and also what can be learned from the past two years.
iBonds have a unique construction in that the rate changes every six months, largely in sync with inflation. So they accomplish a dedicated purpose - they are an inflation hedge. In our complex world, a simple product that serves a dedicated purpose gets kudos. They have the benefit that the counterparty is the United States government, and therefore doesn't have lots of other unstated motives. (This can be a problem in the corporate bond market.)
So did people make that juicy, risk-free 9%?
Yes sort of.. and then quickly no.
To parse that sentence, the "sort of" is because the interest rate is federally taxable if the product is held in a taxable account. So you have to take the 9% down by your federal tax rate. This is better than CDs or money markets held in taxable accounts; those products are federally and state taxable.
And the "quickly no?" That is because as inflation fell, after the first few payments the bond coupons reset to lower levels. The bonds that were bought in October 2022, while initially paying over 9%, are now paying 1.90%. Apparently that is above inflation, although don't tell anyone who actually goes to a grocery store.
This is called interest rate risk, and I was warning clients in 2022 and 2023 to take it seriously. It affects short-term bonds, CDs, and money markets in particular. It's important to recognize the collapse in payments from the October 2022 iBond just two years later. It was nothing like locking in a 30-year Treasury bond in September 1981 above a 15% rate.
Here is the full chart of iBond rates. The rate depends on the date the bond was purchased, as a portion of the coupon is fixed for the life of the bond:
https://www.treasurydirect.gov/files/savings-bonds/i-bond-rate-chart.pdf
Dan Cunningham
Sources: iBond 2022 rates and tables:
https://www.treasurydirect.gov/savings-bonds/i-bonds/i-bonds-interest-rates/
https://www.macrotrends.net/2521/30-year-treasury-bond-rate-yield-chart
I apologize for missing a newsletter. I'll make it up to you in the next few months with a bonus, I promise. Sometimes these newsletters are real doozies but every now and then there's a nugget of insight.
In September, One Day In July blasted through a billion dollars under management. We're excited about this. To everyone who helped by trying to spread the low-cost indexing mission to family and friends, thank you. Your words add real credibility for others.
There is a perception that good investing is dependent on consuming more information, and distilling that information. That was true in the 1970s and 1980s, when a small fry named Mike Bloomberg was getting started. Mike had the insight that information was the scarce commodity on Wall Street, and built a computer operating system to deliver that information in a fast and stable fashion (no CTRL+ALT+DELETE for him). Then he named the computer after himself, the "Bloomberg Terminal." He kind of liked that vibe, so he continued naming buildings after himself all over the nation's university campuses.
Today many people extrapolate that insight forward. But information is not the scarce commodity today that makes an investor successful, discipline is. There is lots of information and probably a lack of discipline as trading volumes surge.
Discipline, and lack of emotion, is a bedrock principle for good investment performance. But even better than lack of emotion, as Jason Zweig pointed out this May in the Wall Street Journal, is inverse emotion: "Buffett isn't unemotional; he is inversely emotional. He takes other people's feelings, turns them inside out and makes the resulting emotions his own." (1)
This is harder to do than it seems. Nothing in a normal childhood trains you to be the oddball. And certainly in the investment field, that group, who might perform well, is going to struggle to get clients because they seem different (when in reality, you want different). Most Americans will hand over their life savings to "the nice guy" at a big brand firm, before they will take the perceived risk of hiring someone who displays inverse emotions.
(As a side note, they're all "nice guys." You'd be nice too if you were being paid tens of thousands of dollars per client per year at a big firm to underperform the indexes while you play golf.)(2)
I don't want to give all of our secrets away to our golfing competitors. But to recap, these three ingredients must get structured into an investment strategy, and an investment firm, in a systematic way or you likely will end up with sub-optimal results:
Dan Cunningham
1. What Our Brains Know About Stocks - but Won't Tell Us - WSJ, 5/24/24
2. I should note that not every client is paying this amount at those firms.
It's a data-driven world, we just live in it. Before you retire to your August vacations, time to look at some charts.
Markets spent the first half of 2024 riding a wave of optimism. But peeling back the onion reveals an interesting trend. Per-share earnings of the S&P 500 are lower today than they were in the fourth quarter of 2021, almost two and a half years ago. And that *does not* include inflation, which was roughly 20% over that time period, meaning that real earnings are down more than 20%. (Remember that inflation tends to give corporate earnings a tailwind.)
If you look at earnings estimates for the S&P 500 though, analysts are optimistic that a steady increase is coming. Markets base their current prices on future results.
The news on inflation is generally good. We graphed the two primary inflation metrics for you below (via CPI-U). The Fed's inflation target remains at 2%, and progress toward that goal continues:
The Consumer Confidence Index remains relatively high. This metric tends to reflect what happened. It serves as a historical look-back. It's not predictive of what is going to happen.
The unemployment rate is steadily rising. The Federal Reserve is watching this closely as unemployment has a history of going quickly from a steady rise to a quick spike. From Fed data:
And credit card delinquencies are rising to 10-year highs across all age groups, which shows spending power on the decline:
Finally, on the stock market side of things, here's an incredible stat. From January of 2023 to July of 2024, the seven big tech firms of the S&P 500 are up over 140%. The other 493 remaining firms, also weighted by market capitalization in the graph below, are up about 25%. Keep in mind that investors cannot predict when mean reversion will begin, but that historically it has been a powerful force.
We have an economic slowdown, which markets wanted. Whether we will have too much of a slowdown is unclear. Analysts peg the overall chances of a U.S. recession at 30%.
Dan Cunningham
1. The Consumer Confidence Index is a trademark of The Conference Board.
2. Additional Chart Sources: Operating earnings: S&P Global / CPI-U: Bureau of Labor Statistics / Unemployment Rate: Bureau of Economic Analysis
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