Rates Hold Steady Yet Still Too High For Consumers – Fixed Income Update

Rates held steady in May as the Fed’s indecisiveness stirred confusion in the bond markets. The yield on the benchmark 10 year Treasury bond ended May at 4.51%, down from 4.7% in April this year. Stubbornly high rates continue to pressure consumers as rates on loans remain elevated, hindering consumer expenditures.

Growing debt levels among consumers are becoming a concern especially on variable rate loans, whose interest rates have increased as the Fed has risen short term rates. Higher rates have become a primary factor with rising delinquencies, from auto loans to credit cards. (Sources: U.S. Treasury Dept., Federal Reserve)

Stocks Perform In May – Equity Overview

Stocks dodged an age-old adage to “sell in May and go away”, as equity indices outperformed for the month. Domestic equities defied uncertainty created by the Fed as volatility drove stocks higher and lower throughout the month. Despite the month long volatility, all three major equity indices finished May in positive territory. Ten of the eleven sectors of the S&P 500 Index gained in May. Technology and communications services were the largest contributors to the gains seen in May.

The yield of 1.35% on the S&P 500 Index has fallen well below to that of the yield on the 6-month Treasury Bill at 5.42% as of the end of May. This comparison is a metric used by analysts to determine the risk and reward for holding stocks versus short term bonds. (Sources: Bloomberg, S&P, Dow Jones, Nasdaq, U.S. Treasury)

Consumers Still Spending Amid Inflation – Consumer Behavior

Consumer sentiment and spending remained fairly consistent in recent months, as noted by the Personal Consumption Expenditures Price Index (PCE). Despite a dip in the summer of 2022, current consumer sentiment is at a similar level as before elevated inflation levels emerged. Inflation steadily decreased over the past 11 months and reached 4% in May 2023, its lowest level since March 2021.

Even with a slowing economy, consumer spending and outlooks have remained resilient. Business investment and pullbacks in inventories have slowed growth, with investor sentiment remaining fragile. This has resulted in two consecutive quarterly decreases in GDP following the previous two-quarters of negative GDP growth.

This data is extremely important to the Fed, which monitors spending and how it affects inflation. However, with aggressive monetary policies in place, deflationary pressures may continue to mount, potentially negatively impacting asset prices. Declining asset prices can impact consumer behavior as devaluing home and stock values lead to lower consumer confidence and expenditures. (Sources: University of Michigan, Bureau of Economic Analysis, Federal Reserve)

Delinquency Rates Increasing Among Consumer Loans – Consumer Debt

Consumer loan balances are increasing due to a combination of factors, including rising interest rates, inflation, and changes in consumer behavior.

As the Federal Reserve has raised interest rates to combat inflation, higher interest rates have made borrowing more expensive for consumers. This has a direct impact on consumer loan balances, particularly for credit cards and personal loans, which often have variable interest rates. Rising loan rates have placed additional stress on consumers as loan payments have increased, with some leading to delinquencies. Outstanding balances on credit card and auto loans have seen the largest increase in delinquencies as of the first quarter of the year.

Elevated prices on food and on other everyday goods and products have enticed consumers to rely more on credit to maintain their purchasing power. This has resulted in higher credit card balances as consumers use credit cards to cover everyday expenses. The increased cost of living has particularly affected lower-income households, who are more likely to turn to credit cards to manage their budgets.

Lenders have become more selective in approving loans, particularly for consumers with lower credit scores. However, the demand for credit remains high, leading to increased balances among those who can still access credit. The tightening of credit conditions has also led some consumers to seek alternative financing options, such as payday loans, which can further increase their debt burden. (Sources: Federal Reserve Bank of New York, www.newyorkfed.org/newsevents/news/research/2024/20240514)

IRS Waives Penalties For Missed Inherited RMDs – Tax Planning

The IRS has recently extended relief for certain heirs regarding Required Minimum Distributions (RMDs) from inherited IRAs. The penalties for missed RMDs from inherited IRAs for the years 2020 through 2024 will be waived. This applies to beneficiaries who inherited IRAs from individuals who died after 2019 and were subject to the SECURE Act’s 10-year rule.

Under the SECURE Act of 2019, most non-spouse beneficiaries must deplete inherited IRAs within 10 years of the original account holder’s death. This rule replaced the previous “stretch IRA” strategy, which allowed beneficiaries to extend distributions over their lifetimes. Initially, there was confusion about whether annual RMDs were required within the 10-year period. The IRS proposed regulations in 2022 that would have required annual RMDs if the original account holder had already started taking distributions. However, this requirement has been waived for 2020 through 2024. The IRS has indicated that 2024 will be the last year for such relief. Starting in 2025, beneficiaries will need to comply with the final regulations, which will likely require annual RMDs if the original account holder had begun taking them. Failure to comply will result in an excise tax of 25% on the amount that should have been withdrawn, reduced to 10% if corrected within two years. Beneficiaries should consider the tax implications of delaying RMDs. While the waiver provides temporary relief, it may result in larger withdrawals and higher tax liabilities in the future. (Sources: IRS, www.irs.gov/retirement-plans/required-minimum-distributions-for-ira-beneficiaries)