Evening Brief – 01.12.24

5% Has Left the Building

If a developing deflationary trend in the U.S. has indeed begun, those attractive yields for 1-10-year U.S. Treasury paper we saw in in the third quarter of 2023 may be a thing of the past, leaving market participants with less appealing yields.

On top of that, there is an equally good chance that yields can decline further throughout the year, especially if the Federal Reserve moves forward with its projected three interest rate cuts this year. FYI, the market is currently pricing in six cuts for a total of 160 basis points!

Given falling inflation expectations and the Fed’s recent dovish shift, the S&P 500’s real estate and utilities sectors could present a good alternative to lower-yielding U.S. Treasuries.

Equity shares in the real estate and utilities sectors are recovering from three-year lows to levels not seen since early 2020. They merit a closer look, especially now that the bond market has absorbed its record fourth-quarter gains.

Several REITs currently provide yields above 5%, while a few blue-chip utility stocks pay yields north of 4% in qualifying dividends with a 20% tax rate. Rather than settling for a fixed 4% income for 5-10 years, investors can earn the same or better rates, as well as tax benefits and potential capital gains, from two sectors that are off their highs.

With bond yields rising slightly, it stands to reason that there will be some backing-and-filling in the real estate and utilities sectors to correspond with the bond market consolidation.

During this period, and well before the Fed begins to lower rates, investors have the opportunity to add some appealing dividends to their portfolios from two sectors that have a history of doing well when the Fed begins to back off the monetary gas pedal.