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Money doesn’t grow on trees

Between March 4 and March 23, the S&P 500 fell an astonishing 28%, including three jarring 9%-plus daily swings. During this historic market sell-off both Congress and the Federal Reserve were forced to take unprecedented steps to shore up the seizing financial markets. During the week of March 16, the Federal Reserve cut the Fed Funds rate to zero and announced another round of quantitative easing (QE4).

Since then, stocks have rallied strongly as most investors now believe the Fed is willing to inject unlimited amounts of money to buoy financial markets (i.e. the Fed put). Some investors are wondering if the unprecedented scope of the Fed’s actions is worse than simply allowing financial markets to sell off and adjust to lower expectations? More importantly, investors want to know if they need to take corrective action in their portfolios.

The Fed’s intervention is not new as it began purchasing securities (the original QE1) back in the 2008-09 Global Financial Crisis. The Fed has done so repeatedly since then, but the scale of this current operation is unprecedented. In fact, the Fed is set to double its balance sheet in 2020 by purchasing high yield and corporate debt ETFs (among other investments), and the pace of the projected growth rate of its balance sheet has gone vertical.

Federal Reserve Balance Sheet2
Image courtesy of Visual Capitalist


On top of that, Congress kicked in with a $3 trillion fiscal stimulus plan in an effort to restart the stalled economy and help the 26 million-plus Americans that have lost their jobs due to this pandemic.

No one is denying the need for such measures. Yet money does not grow on trees. Thus, the U.S. Treasury plans to issue some $4 trillion of new debt—both short-term notes and longer-term bonds—over the next three months alone. Will there be sufficient demand to buy such a huge quantity of Treasuries in such a short period? Will yields need to jump in order to attract buyers? And if yields begin to rise, what then? Will this usher in a new era of higher inflation?

These are all challenging questions that investor should be contemplating today, because the asset allocation and portfolios built at year-end 2019 may no longer be appropriate.

One area often overlooked by investors is convertible bonds, which don’t necessarily fit neatly into traditional asset class boxes. Simply put, convertibles are corporate bonds with an option to be converted into a fixed number of common stock shares at a specified price. Thus, they exhibit qualities of both bonds and stocks—including some inflation-hedging characteristics. While convertible bonds have may be more sensitive to interest rate changes than other types of bonds, investors may want to consider how convertible bonds—and specifically high-quality investment grade convertibles—might play a role in an updated portfolio.

Ultimately, no one knows how the next phase of this pandemic will play out, nor how robust any economic rebound will be. However, the Fed has telegraphed its intent to massively expand its balance sheet, and the ramifications thereof suggest that higher yields may be on the horizon. Investors need to consider if they need to do their own pivot as well.

 

Victory Capital, Inc. is a Registered Investment Advisor. The information in this article is based on data obtained from recognized services and sources and is believed to be reliable. Any opinions, projections or recommendations in this report are subject to change without notice and are not intended as individual investment advice. Not to be used as legal or tax advice.

©2020 Victory Capital Management Inc.
Consider the investment objectives, risks, charges and expenses of the funds carefully before investing. Download a prospectus or summary prospectus, if available, containing this and other important information for USAA Mutual Funds from www.usaa.com/prospectus, for Victory mutual funds from www.victoryfunds.com, or for VictoryShares and VictoryShares USAA ETFs from www.victorysharesliterature.com. Read it carefully before investing.

Investments involve risk including possible loss of principal. The value of the equity securities in which the fund invest may decline in response to developments affecting individual companies and/or general economic conditions. Dividends are never guaranteed. International investing involves special risks, which include changes in currency rates, foreign taxation and differences in auditing standards and securities regulations, political uncertainty, and greater volatility. Emerging markets involve heightened risks related to the same factors as well as increased volatility and lower trading volume. You may lose money by investing. There are no guarantees the funds will achieve their investment objectives and strategies may be unsuccessful.

Investments in bank loans may at times become difficult to value and highly illiquid; they are subject to credit risk such as nonpayment of principal or interest, and risks of bankruptcy and insolvency. Fixed income securities are subject to interest rate, inflation, credit and default risk. The bond market is volatile. As interest rates rise, bond prices usually fall, and vice versa. The return of principal is not guaranteed, and prices may decline if an issuer fails to make timely payments or its credit strength weakens.

ETFs have the same risks as the underlying securities traded on the exchange throughout the day. Redemptions are limited and often commissions are charged on each trade, and ETFs may trade at a premium or discount to their net asset value. There can be no assurance that an active trading market for shares of an ETFs will develop or be maintained. The ETFs are not actively managed and may be affected by a general decline in market segments related to the Indexes. The ETFs invest in securities included in, the Index, regardless of their investment merits. The performance of the ETFs may diverge from that of the Indexes. 

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Judgments about a particular security, markets or investment strategy may prove to be incorrect and may cause an actively managed ETF to incur losses.


Victory Capital does not endorse and is not responsible for any ads, content, products, advice, opinions, recommendations or other material of third party sites that may be promoted via advertising within social media properties.

Content on Xchange, the Victory Capital Blog, is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of the date posted and may change as subsequent conditions vary. The information and opinions contained in each post are derived from proprietary and non-proprietary sources deemed by Victory Capital to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. This material may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any forecasts made will come to pass. Reliance upon information in this material is at the sole discretion of the reader.

This material does not constitute a distribution, offer, invitation, recommendation, or solicitation to sell or buy any securities; it does not constitute investment advice and should not be relied upon as such.  Investors should seek independent legal and financial advice, including advice as to tax consequences, before making any investment decision.

Victory Capital means Victory Capital Management Inc., the investment adviser of the Victory Capital mutual funds, USAA Mutual Funds, VictoryShares ETFs, and VictoryShares USAA ETFs. Victory Capital mutual funds and USAA Mutual Funds are distributed by Victory Capital Services, Inc. (VCS). VictoryShares ETFs and VictoryShares USAA ETFs are distributed by Foreside Fund Services, LLC (Foreside). VCS and Foreside are members of FINRA. VCS and Victory Capital are not affiliated with Foreside. USAA is not affiliated with Foreside, Victory Capital, or VCS. USAA and the USAA logos are registered trademarks and the USAA Mutual Funds and USAA Investments logos are trademarks of United Services Automobile Association and are being used by Victory Capital and its affiliates under license.

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