TSP

Don’t look now, but your TSP is swooning

Stocks and bonds. Both have gyrated badly in recent weeks. It's not a fun time to be invested and yet you have to be.

Tom Temin@tteminWFED

April 24, 2024 12:23 pm

6 min read

Stocks and bonds. Both have gyrated badly in recent weeks. It’s not a fun time to be invested and yet you have to be. For an assessment of the recent few weeks, the Federal Drive with Tom Temin talked to certified financial planner Art Stein of Arthur Stein Financial.

Interview Transcript:

Art Stein So the C and the S and the I funds, the first quarter of this year up through March 31, they had done great. The C fund was up 10.5%, S was up seven and the I fund 6%. So that was a really good three months. But then through last Friday, the end of last week, all of a sudden things completely turned around. And during that three week period, all three of those stock funds were down considerably. C fund down 5%, S fund down 6.9%, I fund down 4%. So all of a sudden today C fund is still up. The S fund is down, I fund is pretty flat. So it just completely turned around. Now the bond funds, again, during the first quarter the F fund was down about 0.7%. But now year to date it’s down 3%. And the reason for this, in my opinion, is that the Federal Reserve has a very ambitious goal to reduce inflation in the United States to 2%. It looked like inflation was going down pretty much monthly. I’m not saying prices were going down, but the rate of inflation was decreasing each month. And as a result, people expected there would be about three interest rate reductions by the fed during this year. Well, that declined and the inflation rate has stalled. And now commentators say, well, we may not get any interest rate reductions this year. And partly as a result of this, interest rates have increased. The ten year bond, the interest rate went from 4.2% to 4.6%. That’s a big change in the interest rate on the ten year bonds, it’s a very high rate. Of course, mortgage rates are over 7% again, and things just look very different, in terms of the financial markets. Now in terms of the economy, the economy continues to do extremely well. Employment is very strong. The economy’s strong. We’re not really seeing problems there. But of course the stock market and the bond markets, they are affected by the economy, but they’re affected by a lot of other things too.

Tom Temin Well, sure. If you have high interest rates, though, that can depress housing. Although some parts of the country housing is going gangbusters. Other parts of the country not so much new housing starts. Those affect the economy at some point, because housing, like automobiles, are drivers of lots of other related commodity sales.

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Art Stein But the mortgage rate in the rate for new mortgages really has not changed that much. It’s over 7% now. It’s been over 7%. It was last year at various times, went down maybe a little under 7%. We’re not seeing big changes. And one thing that I would point out is that the inflation rate, which is the change from the previous year in prices, last month was 3.5%. People are saying, well, that’s so high, but actually the average annual inflation rate in the United States since 1950 has been 3.5%. It’s exactly the same rate. The inflation rate we have now is just average compared to the historical rate in the United States. And I don’t know why the fed wants to get it down to 2%, thinks it can get it down to 2%. We have had inflation that low, but that was so unusual. And with these huge budget deficits that we’re running, huge budget deficits, and there’s big increase in the amount of money the federal government owes and has to finance every year. It makes it very hard to get inflation down.

Tom Temin Right. I think that might be a daunting factor in some of these markets. For example, the interest on the public debt by the federal government that outlay now exceeds the defense budget and saying, gosh, and when you look at it in terms of percentage of GDP that is represented by debt and all of these things, those numbers are beginning to become visibly and unassailable, unsustainable. And you’ve got people in the government saying that as well.

Art Stein So, for individual investors, which is your listeners. I would say one thing I really would like to emphasize is that if you’re worried about inflation, keep in mind that historically, stocks, which we mean the C and the S and the I fund have historically been a very good hedge against inflation, because they tend to go up in price along with inflation. Their sales tend to go up with inflation. Their dividends tend to go up with inflation. Now bonds are not a good hedge against inflation. And both the G and the F fund, whether it’s low inflation or high inflation, people should expect that after you take into account taxes and inflation, the rate of return on the bond funds is probably going to be negative, i.e. your purchasing power is going to go down even though the value of the bond fund might go up, but it will not go up enough to compensate for taxes and inflation. So we’re really back where we’ve been, well, forever. Past performance is no guarantee of future performance, but historically, stocks considerably outperformed bonds over longer periods of time, and they’ve done it by enough to increase purchasing power after taking into account taxes and inflation.

Tom Temin In some funny sense, bonds are like money because they are based on loans ultimately, whereas stocks are based on different types of securities. So it’s kind of like the old rule your money may go down in value, but if you can have your holdings rise in value with the degree your money’s going down like you’ve been describing, you’re going to be in better shape.

Art Stein Exactly. So if you want to look at the 15 year average rates of return, the C fund has averaged 14.5% per year for 15 years. The G fund only 2.4%, the F fund only 2.6%. That’s a big difference.

Tom Temin Right. So whatever instrument you’re in, you want to stay at least ahead of inflation to be able to tread water.

Art Stein Yeah. If you’re trying to finance your retirement with investments that are going to lose purchasing power over time, that makes it very difficult to do. And of course, FERS retirees, any time inflation is over 2%, the adjustment in their FERS retirement is less than the full inflation rate. The purchasing power of their FERS annuity is going to go down over time. So if they’re all in the F and G fund then that purchasing power is going down over time. That’s a problem.

Tom Temin All right. So then like you say, the eternal advice is try to stay in the historically high growth funds and don’t lose your nerve because they’re gyrating now.

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Art Stein Exactly. I’m not saying don’t have investments in the F and G fund. I think those are very worthwhile, but you need to have a solid percentage in the C,S and I funds.