Interest rates have rocketed to the top of investors’ minds in recent weeks, with yields on long-term Treasurys jumping to multi-decade highs and the Federal Reserve hiking rates for the first time under Chair Kevin Warsh.
In part, yields have been rising as investors grapple with a growing list of uncertainties. The Iran conflict is entering its eighth month. Volatility has been increasing in energy markets. The AI investment boom has raised challenging questions about growth, productivity, and inflation.
For investors with a broad mandate like Adam Kramer, lead manager of Fidelity® Multi-Asset Income Fund (
Cautious on high yield, constructive on Treasurys
As he surveys the landscape, one key investment yardstick for Kramer is the credit spread (i.e., the extra yield offered over Treasurys of like maturities) for high-yield bonds. These spreads have recently been very narrow by historical standards. This, he says, signals a strong economy underpinned by a powerful AI-related capital investment cycle, low unemployment, and a favorable wealth effect.
“Recently, what I’ve seen is that I could get better risk/reward by simply investing in US Treasurys,” he says. “I’ve been cautious about credit-spread exposure; I have preferred to take on interest-rate exposure in the recent environment.”
He notes the recent availability of 5% to 5.5% yields on Treasurys maturing in 10 to 30 years, compared with a current yield of about 7% on a typical high-yield bond. If the economy were to weaken, then the credit spread would likely widen, driving down prices for high-yield credits. Kramer isn’t cautious because he expects the economy to soften—he generally avoids investing on the basis of macroeconomic forecasts—but he doesn’t believe high yield bonds have generally been paying enough to compensate for that risk.
By contrast, Kramer thinks a lot of “bad news” has already been priced into Treasurys, which implies attractive compensation for risk. As an example, if interest rates for 10-year Treasury bonds (recently around 5%) were to rise by another 1 percentage point, then due to interest-rate sensitivity their prices would fall by about 8%. This would result in a loss of approximately 3% after one year (with the 8% decline in price being offset by the 5% yield). Not a desirable situation in absolute terms, but he notes that in such an interest-rate scenario, “riskier assets could decline by magnitudes of that,” he says.
On the other hand, suppose interest rates were to fall by 1 percentage point—perhaps due to a resolution in the Persian Gulf and falling oil prices, or due to a softening economy, or an investor flight-to-quality. In that case, he says, the gain on the 10-year Treasury could be about 13% (an 8% gain in price plus 5% for the coupon). Kramer likes that possible scenario.
“I seek to build a portfolio that could win if the economy does well or if the economy weakens,” he says.
Hunting for hard assets
Hedging inflation risk is a major market theme today, with both near-term pressures, like energy prices, and longer-term pressures, like high deficits, contributing to investor concerns. Fidelity Multi-Asset Income Fund has held positions in gold miners and a tungsten miner (tungsten is a scarce metal with important applications for the military and semiconductor industry). But Kramer is also combing less-crowded corners of the market for hard assets available at attractive valuations that could perform well in periods of geopolitical tension or peace.
“I’m looking for scarcity, real assets, and income,” he says. “I want to win in multiple scenarios.”
Two areas he’s uncovered are oil-tanker stocks and digital treasury companies, particularly their preferred shares. In these asset classes, he’s found favorable risk/reward tradeoffs and potentially attractive dividends. From a portfolio perspective, he notes that these dividends have helped to boost the fund’s yield and offset its relatively low recent allocations to asset classes with credit risk, such as high-yield bonds and bank loans.
Time for tankers
Kramer says that since beginning his career at Fidelity in 2000 as an oil-tanker analyst, he has witnessed a dramatic transformation in the industry’s economics. A quarter of a century ago, it was a boom-bust sector typified by overly indebted companies that tended to burn cash to buy new vessels at cycle peaks, and then flirt with bankruptcy after the cycle turned.
Yet since around 2021 the industry has been seeing a turnaround, he says. Some of the companies have dramatically improved their balance sheets by aggressively paying down debt and sharply reducing spending on new ships. This has enabled them to significantly increase dividend distributions—reaching yields of 20%, and at times even greater, on an annualized basis, Kramer says.
They’ve also become sturdier businesses with much improved cash-flow visibility. In part because of a global tanker shortage, owners have increasingly been able to replace the use of spot-market contracts with multi-year agreements with oil majors.
At present, continued dislocation in oil and refined-product markets stemming from disruption in the Strait of Hormuz is contributing to a worldwide shortage of tanker capacity. Looking past the most near-term dynamics, Kramer thinks the sector could continue to flourish since global oil inventories have plummeted since the conflict began and will take time to rebuild.
“I believe there could be a significant energy inventory rebuild cycle,” he says.
A digital take on real assets
“Digital treasury companies,” meaning companies that hold bitcoin or ethereum, are another asset class where Kramer thinks income has been mispriced, and where he feels he’s been well compensated for shouldering risk.
“In this world where investors face risks from inflation, money printing, and currency debasement, money may eventually flow into scarce assets, especially scarce monetary assets like bitcoin,” he says. “I want to be owning real assets at this point in the cycle.”
He’s especially drawn to perpetual preferred stocks issued by cryptocurrency holding companies (preferred shares are more senior than common stock in a company’s capital structure and typically pay a fixed dividend). The issuers' significant holdings in bitcoin and/or ethereum have created a balance-sheet cushion that has remained substantial even after large swings in crypto prices. Their dividend yields have generally ranged from 10% to 13%. Finally, distributions paid on the preferreds may be treated as a return of capital rather than as ordinary or qualified dividends, which can offer more favorable tax treatment.
In recent months, Kramer has also picked up common stocks of the same companies when, hit by volatility in prices of cryptocurrencies, they have traded at discounts to their net asset values. As with oil-tanker stocks, in the digital treasury companies he feels that he may hold scarce assets with solid downside protection that pay good income.
Change is constant
This year, marked by geopolitical surprises, unexpected inflation, and interest rate movements, has been a fine example of the uncertainty and perennial challenges faced by investors. It’s all in a day’s work for Kramer.
“I try not to make predictions as to what’s going to occur. I look for investments that could offer superior rewards, given the level of risk, in multiple scenarios,” he says. “Right now, there are not that many great risk/rewards, and so I’ve positioned the portfolio accordingly.”