By Daniel Kruger
The latest pillar supporting the U.S. Treasury market: everyday investors.
Ordinary investors are a growing force keeping longer-term bond yields low, even as the Federal Reserve has raised interest rates. They are helping cap borrowing costs for individuals, corporations and state and local governments, while boosting the appeal of riskier assets such as stocks, which have climbed to record after record in recent months.
John Nederhiser exemplifies the current crop of bond buyers. While professional money managers fret about interest-rate increases, rising budget deficits and inflation, the 58-year-old accountant in Gresham, Ore., said such concerns won't deter him from continuing to add to his fixed-income holdings.
"Pretty much what I'm going to do is stay the course," he said.
An aging population means investors like Mr. Nederhiser are likely to remain a factor, as people typically increase bondholdings as they approach retirement. The population of U.S. residents age 65 or older has grown more than 40% since 2000 to 49.2 million in 2016, according to the Census Bureau, which could signal steady demand for the debt. The median age for investors with fixed-income holdings ranging from mutual funds to individual bonds is 53, according to the Investment Company Institute's annual mutual-fund shareholder survey, up from 49 in 2007.
After a decade of bond yields holding near their lowest levels in modern U.S. financial history, many professional investment managers entered the year skittish about the potential for losses should demand for bonds decline. Interest-rate increases from the Federal Reserve, plans for tax cuts and generally strong economic data had some analysts talking about the possibility of a selloff sending the yield on the benchmark Treasury 10-year note, which rises when bond prices fall, to 3%.
Instead, the 10-year yield has defied forecasts, ending 2017 on Friday at 2.409% from 2.446% at the close of the prior year. While analysts say factors keeping bond prices from falling include persistent demand for Treasurys from foreign investors -- whose own bond yields have been driven near all-time lows thanks to easy money policies from central banks -- government data suggest that individuals such as Mr. Nederhiser have been playing an increasingly crucial role in stabilizing prices in the U.S. bond market.
Treasury Department data on the $1.87 trillion of new government notes and bonds sold at auction this year through Nov. 30 show U.S. investment funds -- mutual funds and similar vehicles that typically represent individual investors -- have bought a record $917 billion, or 49% of the debt, excluding Fed purchases. The percentage has been steadily rising from 20% in 2010 and the figure significantly exceeds the $316 billion bought by foreign investors through November. Net flows into funds that invest in U.S. government bonds and other taxable debt surged in 2017, exceeding $16 billion for 10 straight months through October, according to data from EPFR Global.
Conversations with more than a dozen individuals and financial planners suggest many of those retail investors are more willing than professionals to stick with bonds, even if yields climb further.
Some older investors have lived through periods where inflation climbed above 10% and where it cratered below zero, while watching plunges in technology stocks and home prices dent their accumulated wealth. For some, that has led to a pragmatic appreciation of bonds' steady income and relative stability.
"You really can't predict what happens with markets and interest rates," said David Folts, a 59-year-old occupational therapist from Girard, Ohio, who invests in a low-cost bond fund. "My approach is my approach, and it's not changing."
The sanguinity of ordinary bondholders stands in contrast with 2017 statements from some more famous investors such as Bill Gross and Jeff Gundlach, both dubbed "the Bond King" at various times. Mr. Gross and Mr. Gundlach each created a stir last year by intimating a broad selloff might be approaching.
While the pros fretted, Arun Koparkar dismissed speculation about an increase in yields and kept his cool.
"We've been hearing about this for 10 years and it hasn't happened," said Mr. Koparkar, 66, a retired consultant in the biotech and pharmaceutical industries. He and his wife, Sunita, 59, who works in research and development in biotech, plan to continue investing in bond mutual funds and exchange-traded funds. "I have not changed my strategy, " he said.
Much of the support individual investors are giving to the Treasury market is as a result of their investments in diversified bond funds, not an insatiable hunger for government debt. That is because government debt now makes up more than one-third of the Bloomberg Barclays U.S. Aggregate bond index, a popular reference point that guides how many portfolio managers assemble their holdings.
The amount of Treasurys in the index has risen from roughly one-quarter in 2007, before the financial crisis led to an explosion in government borrowing and a slowdown in issuance from corporate and mortgage borrowers. The proportion of Treasurys may rise further as the Fed pares back its $4.2 trillion in holdings of government and mortgage debt, which indexes don't count since the Fed's portfolio sits outside of the open market.
With government bond yields already near modern lows, some analysts see complacency as among the biggest risks. And some investors find it difficult to settle for single-digit bond yields when the S&P 500 index has posted double-digit returns for the seventh time in the past nine years.
"The idea of diversification often goes out the window when one asset class outperforms the others," said Gary Schatsky, a financial adviser in New York.
"The biggest risk right now is the belief that the next eight years will be like the previous eight years," said Rich Saperstein, a financial adviser in New York. He is moving clients out of securities with interest-rate risk, such as longer-term Treasurys, and recommending shorter-term corporate and municipal bonds.
It remains to be seen if retail investors will hang on to bonds should yields start to skyrocket. During the 2013 "taper tantrum," which followed then-Fed Chairman Ben Bernanke's statement that the central bank was preparing to stop its bond purchases. Bond funds suffered net outflows for eight consecutive months afterward, while the yield on the 10-year note almost doubled to around 3%.
Mr. Nederhiser, who principally invests in low-fee bond funds, remembers the taper tantrum. Back then, as 10-year Treasury yields soared, Mr. Nederhiser began shifting some of the gains from his stock portfolio into bonds.
"I saw it as the ultimate rebalancing opportunity," he said.
Write to Daniel Kruger at [email protected]