The US Government officially reached its borrowing limit on Monday … bumping up against the current debt ceiling of $14.3 trillion.¹

If you were expecting a full-fledged bond market revolt as a result of the debt ceiling drama … it hasn’t exactly played out that way … contrary to what some fixed-income investors may have been expecting.

Investors reacted to this as a non-event, as Treasury bill rates remained near record low levels.

In spite of a looming Federal budget deficit estimated at more than $1.6 trillion this fiscal year alone, 6-month Treasury bill rates hovered near record lows of just 0.07 percent this week, not too far off the record low of 0.03 percent reached early this month.²

Parking your money with Uncle Sam for three months in 90-day Treasuries will pay you only 0.02 percent interest … BEFORE taxes! That’s the lowest yield on record — except for the negative yields recorded during the thick of the financial crisis almost three years ago.

Even long-term bonds are hanging in there in spite of lingering uncertainty over government budget battles in Washington D.C.

The benchmark 10-year Treasury, for instance, is yielding just 3.15 percent today, with yields declining since February as bond prices rise.³

With market volatility on the rise and the Federal Reserve’s $600 billion bond-buying program expected to come to an end next month, now is a good time for investors to revisit their fixed income portfolios.⁴

At Banyan Partners, we’ve been preparing for a shift in the domestic bond market for some time now. Let’s cover some specific moves we’ve been making on behalf of clients in our income strategies.

The three key steps we’ve been consistently recommending for fixed income markets in transition are ...

1.    Shorten the duration of your fixed income holdings.

2.    Go global for higher income opportunities.

3.    Consider hedging strategies designed to protect against turbulent bond markets.

Shorten Duration

The longer your portfolio’s bond maturities, the greater volatility you can expect from interest rate fluctuations, both up and down. Thirty-year bonds are more sensitive to interest rate shifts than 10-year bonds and 5-year maturities are even less sensitive.

For a portfolio of individual bonds, bond funds, or ETFs, duration is an important measure of how long, on average, it takes to get your money back. And with bond market volatility on the rise, it may make sense to shorten duration.

That’s because the lower your portfolio’s duration, the LESS impact you likely will experience from rising interest rates. In other words, when 30-year bonds fall in price, it doesn’t mean ALL bonds are taking the same hit.

At Banyan Partners, our Global Fixed Income Strategy has an average duration of less than five years today. This duration is much less sensitive to rising interest rates and inflation. As of last Friday, it offered an estimated 12-month yield of 6.3 percent, net of fees.

What’s more, a rising interest rate environment isn't all bad news for bond investors. If the duration of your fixed-income portfolio is only 4 or 5 years, you can reinvest your interest at steadily higher yields — earning more income over time — as interest rates move higher.

Go Global

International bond funds or ETFs can provide you with instant diversification as many of these funds invest across hundreds of individual bonds. However, you'll need to make sure the fund’s holdings reflect global economies that offer higher interest rates and attractive currency fundamentals to help you capture higher yield. Additionally, you should be mindful of economic conditions in overseas markets, exchange rate fluctuations and political risks.

That said, emerging markets have strong growth prospects, and in many cases, stronger fiscal and monetary policies than in the developed world. Investors don’t want to overdo their allocation in this sector because emerging market bonds can be quite volatile.

As an added bonus, international bonds, bond funds or ETFs can help you diversify your fixed income portfolio in currencies other than the US dollar — a big plus if the dollar continues its long-term slide.

While it’s not possible to make specific investment recommendations without knowing your personal financial goals, I can tell you that in Banyan Partners Global Fixed Income Strategy, the current asset allocation is about 30 percent international bonds — mostly in faster-growing developing markets — and about 70 percent domestic bonds with a focus on higher-yielding corporate bonds, plus several protective hedges using specialty funds.

Right now, we’re keeping a higher allocation in domestic fixed income than usual because we believe the US dollar is oversold and may be due for a bounce … potentially lifting domestic bond prices. In fact, we expect the dollar to form a near-term bottom and then turn higher.

We’re also focusing on the corporate bonds of US companies with a global reach. In many cases, corporate balance sheets look a lot more attractive to us than Uncle Sam’s finances! Many US companies have refinanced their long-term debt at record low rates in recent years. Now, many quality firms are sitting on plenty of cash, and default rates are historically at very low levels as a result of the Fed’s ultra-low interest rate policy.

Currently, we expect investment money to continue flowing from government-backed paper to corporate bonds. That’s why corporate and especially select high-yield bond funds are one of our favorite sectors right now. However, investors need to be sensitive to maturities, overall credit stability, and the market’s general appetite for risk.

Hedging Strategies

At Banyan Partners, we develop custom portfolios and unique investment strategies designed for all market conditions. Hedging strategies are an important component. For example, investing in high yield bonds or emerging market bond funds can offer the opportunity for higher income, but are also subject to greater price fluctuations or changes in credit conditions.

But what if you could capture the greater income potential offered by high-yield bonds while hedging some of the price risk at the same time?

In our Global Fixed Income Portfolio, we aim to accomplish this by, first, carefully selecting high-yield funds with outstanding relative performance track records during both up and down markets.

Second, we have the flexibility to overlay an inverse, high-yield fund to our asset allocation that’s designed to go up in value when high-yield bonds decline in price, in an effort to smooth out price fluctuations.

The goal here is to capture greater cash flow while hedging some of the principal price fluctuation that can come with higher yielding bond funds.

Many of our specialty investment strategies at Banyan Partners use tactical hedges, including inverse and occasionally leveraged funds or ETFs, seeking to capture or reduce potentially extreme price fluctuations. When carefully blended and prudently managed, specialty funds can provide added protection against unexpected currency swings and interest rate fluctuations. However, it’s important to keep in mind that inverse funds should be used sparingly, must be chosen carefully — and above all — monitored closely.

Bottom line: Choosing the best mix of income-producing securities and maintaining proper diversification in a shifting interest rate climate can be challenging. At Banyan Partners we use all of these tools, and more, to manage our client portfolios.

Plus, we make regular tactical shifts in our strategy in an effort to take advantage of rapidly changing global market conditions. We highly recommend professional management in today’s constantly changing and uncertain markets to help ensure you make the right moves with your wealth.

Good investing,

Mike Burnick
Director of Client Communications
Banyan Partners, LLC

P.S. To learn more about the Banyan Partners Global Fixed Income Strategy, simply go here to contact one of our Investment Consultants, or call 1-800-422-6172. We can provide you with detailed answers to your income investing questions one-on-one and offer personalized advice that’s tailored to your financial goals.

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The opinions expressed in this newsletter are subject to change without notice and do not represent a complete analysis of every material fact with respect to any company, industry or sector mentioned in this report. The strategies mentioned may not be suitable for all investors. This information has been prepared solely for information purposes and is not a solicitation or an offer to buy a security, instrument, or to participate in any trading strategy.

International investing presents certain risks not associated with investing solely in the United States. These include, for instance, risks related to fluctuations in the value of the US dollar relative to the values of other currencies, custody arrangements made for foreign securities, political risks, differences in accounting procedures, and the lesser degree of public information required of non-US companies.

Inverse and leveraged ETFs and mutual funds are highly complex financial instruments that may be utilized in pursuit of the Program’s overall investment objectives. Due to the effects of compounding, their performance over long periods of time can differ significantly from their stated objectives.

Past performance is not indicative of future returns and there are no guarantees that the Global Fixed Income Portfolio will achieve its stated objectives. It is possible to lose money by investing in this strategy. Please contact us to receive full performance information.

Please read our Form ADV Part II for complete disclosures including suitability, fees and risk information before investing in the Global Fixed Income Portfolio.

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¹ Bloomberg, Treasury Bill Rates at Almost Record Low, 5/16/11
² Bloomberg, Pimco Sees Financial Repression in US, 5/16/11
³ Bloomberg, Treasury Bill Rates at Almost Record Low, 5/16/11
⁴ Ibid.