Despite its poor performance in comparison, the categorization led the way in terms of fund flows this week, garnering $3.0 billion. Lipper General U.S. Treasury Funds have also been hot since the beginning of the year, bringing in $21.4 billion, putting them in third place behind Lipper International Income Funds (+$33.4 billion) and Lipper Loan Participation Funds (+$25.2 billion). Lipper General U.S. Treasury Funds also hit a quarterly intake record with $13.9 billion in inflows in the fourth quarter of 2021.
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Funds that invest primarily in U.S. Treasury bills, notes, and bonds fall into the Lipper General U.S. Treasury Funds category. As of December 2021, the funds in this category had an average term of 12.2 years. Lipper General U.S. Treasury Funds have underperformed other key fixed income indices, such as the Bloomberg Municipal Bond Total Return Index (-8.8%) and the Bloomberg U.S. Aggregate Bond Total Return Index (-9.5%), with a year-to-date return of negative 13.3 percent through April month end.
Wednesday, May 4, the Federal Reserve policymakers decided they will raise rates by 50 basis points (bps) for the first time in more than 20 years. While the significant hike was largely expected, Federal Reserve Chair Jerome Powell noted that bigger moves were not in the Fed’s future plans. It is still forecasted, however, that the Fed will raise rates during each of its remaining meetings this year.
With the poor performance of longer-dated Treasury bonds already realized through April, inflationary fears growing, and the current rising rates environment in place, the question stands: Why have longer-dated U.S. Treasury Funds attracted so much capital this week and this year?
To get the answer we may need to take a step back. Equity markets year-to-date through April have logged even worse returns than Lipper U.S. General Treasury Funds—Nasdaq (-21.2%), Russell 2000 (-17.0%), and S&P 500 (-13.3%). The only U.S. broad-based equity index to outperform the classification was the DJIA (-9.25%). As interest rates rise, the high-flying, already pricey growth and technology stocks are in for a rough ride. Principal protection, tax exemptions, and guaranteed rates of return become even more important as the economy seems to be heading toward turbulent times.
Risk mitigation and diversification are two terms that have seemed to have become less sexy during the past bull market. Goldman Sach’s economic team just last month forecasted there is now a 35% chance of a U.S. recession over the next two years. Deutsche Bank, which originally published its recession base case as late 2023, has said a downturn by the end of the year is likely if the Fed continues its aggressive monetary tightening. In order to avoid large drawdowns in a broader portfolio, an allocation to Treasuries acts as an option to diversify risk.
A third viable pro of this Lipper classification in the given environment is the fact that market participants might believe today’s prices already factor in the future expectations of rising rates. If that is the case, and yields rise less than expected, the case for holding longer-term bonds is a strong one—a stance many foreign investors are betting on.