Your Money: Where to, interest rates, if Fed pulled back?

Posted: September 20, 2013

Where will interest rates and bond prices be without Federal Reserve intervention - something, it seems, the Fed plans to continue? A new report gives us some clues.

Historically, real rates of return on 10-year U.S. Treasury bonds have averaged approximately 2.44 percent. A "real" rate of return is what you make after inflation, or the current yield on the bond, minus inflation.

Currently, real rates of return on 10-year Treasuries are close to zero (current 10-year U.S. Treasury yield of 2.00 percent minus 2.00 percent inflation rate equals 0.00 percent). That may return to normal levels once the Fed finally exits its current bond-buying policies, according to a new research report from Don L. Riley, chief investment officer at Wiley Group, a Conshohocken- based retirement-investment advisory firm.

As demand for government bonds wanes, the U.S. Treasury has to pay higher returns to borrowers. As prices fall, interest rates rise.

From current levels, an increase to 4.4 percent yield would indicate less demand for Treasuries, and Riley estimates the 10-year U.S. Treasury bond would lose 21 percent in price. As an example, a $100 bond trading at today's 10-year Treasury yield would drop to $79 in value if rates rose to 4.4 percent.

Emerging markets

While investors were focused on U.S. equities this week, emerging markets have been staging a minor comeback after a summer of sell-offs. Bryn Mawr Trust chief investment officer Ernie Cecilia advises not to give up on emerging markets.

"We recently saw the emerging markets underperform vs. the developed markets," Cecilia says. "However, we see them as attractive again."

Emerging markets represent a large percentage of global GDP, are growing faster than the developed world, and appear undervalued.

How to play it: Cecilia likes Unilever (symbol: UL) for its exposure to the emerging markets. More than 50 percent of sales are derived from emerging markets.


Erin Arvedlund is a finance reporter and a Philadelphia resident. Contact her at erinarvedlund@yahoo.com or 646-797-0759.

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