In The Money
Managing cash as interest rate cuts postponed
This regular column addresses readers’ investing issues.
Q: Given higher-than-expected US inflation earlier in the year, the market expected the US Federal Reserve to hold rates steady, which it did. Where does that leave investors holding cash?
Many conservative investors have been leaving their funds in fixed deposits or Singapore Treasury bills (T-bills). Some experts suggest that they consider the one-year T-bill to lock in the yield.
Go for six-month T-bills or one-year T-bill?
The latest six-month T-bill came in with a cut-off yield of 3.74 per cent, which is higher than the cut-off yield of 3.58 per cent for the one-year T-bill.
Six-month T-bill yields were falling at the start of the year but rose again, probably as expectations for a rate cut earlier in the year had eased.
Providend chief executive and founder Christopher Tan says: “Currently, the long-term yield is still lower than the short-term yield as the Fed has been raising short-term interest rates to fight inflation and in the meeting on May 1, they held the rates steady.”
The reinvestment risk is that if the Fed decides to lower short-term interest rates in the next six months, investors may not be able to reinvest the money in a T-bill at a similar or better yield.
Mr Tan says: “As such, if you have cash that you do not need to use in the next 12 months, you may want to consider investing in one-year T-bills to lock in the current yield.”
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Choice of fixed deposits, SSBs and T-bills
He suggests: “Spread the cash needed in the next five years using all three instruments: Fixed deposits, Singapore Savings Bonds (SSBs), as well as T-bills.”
- Cash needed for immediate drawdown can be in a savings account.
- Cash needed in the next six to 12 months can be placed in T-bills
- Cash can also be placed in SSBs to lock in the yield, in case it drops.
- Finally, another instrument to consider if investors need to park cash for the short term can be a short maturity single premium endowment. This is usually between one and three years in maturity.
Mr Tan adds: “If more cash is needed in an emergency, a larger proportion of cash can be placed in fixed deposits as this gives immediate liquidity. The next higher proportion can be placed in SSBs and the rest in T-bills.”
For example, if it is unlikely that cash will be needed at short notice, say for an emergency, more can be allocated to T-bills.
Fixed deposit interest rates generally tend to track T-bills yield and have trended lower this year. Getting over 3 per cent is still possible, but the best rates are still lower than that for the T-bills.
Mr Tan cites one scenario: Assume the fixed deposit interest rate is 3.2 per cent a year for a 12-month tenure. The last cut-off yield for the six-month T-bill is 3.74 per cent.
Say you have $120,000 as an emergency fund and your monthly expenditure is $10,000. One possible allocation: $30,000 in a fixed deposit for 12 months, $30,000 in another fixed deposit for 12 months and $60,000 in a six-month T-bill.
If you lose your income now, terminate the first 12-month fixed deposit. After three months, the next step could be to terminate the second fixed deposit. After six months, the T-bill will mature and the funds can be used for the next six months.
Given rates are expected to hover higher for a while more, there are other avenues apart from T-bills where investors can lock in the current interest rate, notes Mr Shawn Sng, PhillipCapital’s credit research analyst for fixed income.
“Investors who are comfortable with foreign exchange risk can also consider US Treasury bills,” he says. “These short-term government debt securities offer competitive returns, with six-month bills yielding around 5.4 per cent and one-year bills yielding around 5.2 per cent.”
Singapore investors can buy US Treasury bills on the PhillipCapital platform or with digital brokerage Moomoo.
Ms Stephanie Leung, chief investment officer of the digital investment platform StashAway, says that if investors have spare cash that is not needed right away, it might make sense to lock in longer tenors for fixed deposits, especially if they are offering similar rates as shorter tenors.
There is also a product called StashAway Simple Guaranteed where funds can be placed in a fixed deposit.
Bonds
Bonds are also used as a source of income by investors, so how should they adjust their portfolio?
JP Morgan Asset Management’s Asia-Pacific chief market strategist, Mr Tai Hui, says the current environment benefits short-duration bonds.
As the Fed has not moved so far on rates, there is not much movement in bond yields and the short end of the curve (two years or less) provides a higher level of interest rates which immediately rewards investors.
He also suggests that investors can hold high-yield corporate debt. In this situation, the income component generates the bulk of total return. Assuming the Fed does not make any changes until later this year, bonds yields will remain steady. That means there will not be much change in bond prices and income (interest) will be the main contributor to an investor’s total return.
When the Fed signals its intention to cut rates – likely later this year – the lower bond yields will translate into higher bond prices and hence capital gain will make a larger contribution to total return.
Mr Hui reckons the default rate (of bonds) is likely to remain low for now, given the resilient growth.
Mr Marcus Liew, the multi-asset solutions portfolio manager at European asset manager Amundi Singapore, says current yields offer an entry point for investors.
Amundi recently launched the All Weather Income Fund, which has a diversified portfolio of fixed-income instruments ranging from sovereign bonds to corporate bonds across developed and emerging markets. The funds are selected by DBS’ discretionary portfolio management team and managed by Amundi.
As the fund has exposure to longer-term bonds, investors could “lock in” much of today’s elevated yield levels with reduced reinvestment risk associated with holding cash, money market or term deposit instruments, Mr Liew says.
Providend’s Mr Tan adds: “If you are investing for the long term, bonds or bond funds are a staple in the portfolio, as they act as a shock absorber to moderate the volatility of the portfolio so that investors can stay invested and reap the long-term rewards.”
There are certain things to weigh up when buying a bond fund, notes Mr Gerald Wong, the founder of financial insights platform Beansprout.
“There are several factors we would consider, including the credit quality of the underlying bonds held, the average duration of the bonds, as well as how diversified the fund may be.”
PhillipCapital’s Mr Sng adds that investors looking to secure higher interest rates for the longer term – two years or more – can also consider new bond issuances. These bonds should be issued with higher coupon rates compared with those issued during low-interest periods.
Real estate investment trusts (Reits)
Reits are often used by investors for their yield and potential capital gain as well as to access the real estate asset class.
Since the Fed started to hike rates, Reits have struggled to find their footing. Analysts agree that rising interest rates pose challenges for Reits as they tend to decrease the value of properties and increase borrowing costs.
While Reits usually offer attractive yields, current interest rate levels mean lower-risk bonds may offer attractive yields too and be an alternative to property trusts.
Mr Wong of Beansprout says Reits may continue to see a mixed performance if a rate cut does not happen, as each may be impacted by the elevated interest rates to varying degrees. He advises investors “to look into the fundamental strength of the Reit, its balance sheet quality, as well as valuation to determine if the Reit may be worthwhile buying”.
Mr Wong adds that investors who wish to gain exposure to Reits without analysing individual counters can consider Reit exchange-traded funds (ETFs) to gain a broad based exposure to the sector.
Providend’s Mr Tan advises looking at valuations, dividend yields and the opportunity cost relative to another investment option (for example a diversified index fund) to evaluate if the expected returns are worth the risk.
Think long term
He emphasises that an investor’s “portfolio should be positioned strategically for the long term and not make short-term tactical changes. This is because evidence has shown that investors who try to be tactical in the short term tend to do worse than the markets”.
The most sensible approach is “to be invested in a globally diversified portfolio of equities and bonds in the proportion where it is suitable for investors’ ability and willingness to stay invested for the long haul”.
Bottom line
Given that rates have yet to fall, holding short-term six-month T-bills still looks like a good choice. But investors should also consider one-year and longer tenures for their investment instruments in view of the re-investment risk.
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