A risk-free 2-year Treasury now yields double the average corporate dividend, luring income seekers
The latest big move in the Treasury market has created an attractive opportunity that could tempt income-hungry investors to shift away from stocks. The U .S. 2-year Treasury yield topped 3.5% on Thursday, hitting its highest level since November 2007. That’s more than double the dividend yield of the S & P 500, according to Bespoke Investment Group . Bond yields move inverse of prices. The divergence comes even as stocks remain relatively expensive, despite this year’s declines. Strategas Research partner Chris Verrone said in a note to clients on Wednesday that the price-to-earnings ratio for the S & P 500 was at 14-times in 2007 versus 17-times currently. The rise of short-term Treasury yields gives risk-averse investors a place to park their money and collect a solid cash flow, with little risk of a default or an equity market decline that comes with investments in corporate debt or stocks. While it can be cumbersome for individuals to buy bonds, there are mutual funds and ETFs, such as the iShares 1-3 Year Treasury ETF, that can help investors gain exposure to the short end of the Treasury curve. However, betting on Treasurys does mean investors forfeit some upside potential that comes with holding stocks. The trade could also look less attractive a few years down the line, especially for less active investors said John Luke Tyner, a portfolio manager at Aptus Capital Advisors. “With the volatility in rates, you take on a lot of reinvestment risk,” Tyner said. “Yeah, you get the 2-year at 3.50%, but in 2 years where are rates?” Reinvestment risk means that is unclear what the yield environment or corporate dividend levels will be when it is time to put the interest payments and principal back into the market. This can be key in bond markets, where it can be more difficult for investors to trade in and out of positions quickly. Tyner pointed to the inverted yield curve as an indication that the market expects the Fed to cut rates in the coming years. “Rates, over the future, are probably going to go down,” he said. Of course, if the stock market doesn’t rise before a bond matures or is sold, or if the market’s dividend yield doesn’t grow, that would not be a bad trade. Investors would be able to reinvest the proceeds from the bond investment into the stock market after having collected the higher yield in the meantime. Additionally, there are still some stocks that offering dividend yields close to or above the 2-year Treasury yield, with a chance for more upside that the government bond market can provide. For his firm’s portfolio, Tyner said he has been cutting credit risk, such as emerging market debt, and adding Treasury Inflation-Protected Securities in recent weeks.