Monetary Policy2025-11-10
Fed Rate Pause Signal: Time to Reassess Bond ETFs
The Fed signaled a rate pause at the November FOMC meeting, sending long-term Treasury yields lower. With bond ETFs like TLT and IEF gaining renewed investment appeal, now is the time to use a rebalancing calculator to reassess your fixed income allocation.
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The Federal Reserve held its benchmark rate at 4.75% at the November FOMC meeting, signaling an end to its tightening cycle. With inflation approaching its 2% target and early signs of softening in the labor market, the likelihood of further rate hikes has fallen sharply. In response, the 10-year Treasury yield dropped from 4.2% to 3.9%, and long-duration bond ETF TLT surged +4.5% over three days. As rate cut expectations build, now is the time to revisit your bond investment strategy. Use an asset allocation calculator to reassess the optimal stock-to-bond ratio, and a rebalancing calculator to adjust your portfolio's duration.
The Fed's Rate Pause and the Outlook Ahead
The Fed voted unanimously to hold rates at the November FOMC meeting. At the press conference, Chair Powell noted that inflation had fallen to 2.4%, bringing it close to the target, while the unemployment rate had risen to 3.9%, easing concerns about an overheated labor market. According to the Fed's dot plot, the projected year-end 2025 federal funds rate was revised down to 3.75%, implying 100 basis points (1.0 percentage points) of cuts over the next 12 months. Markets are pricing in gradual 25bp cuts beginning in Q1 2025, with the probability of a first cut in June jumping to 85%. As the Fed enters a rate-cutting cycle, bond prices are expected to rise—particularly for long-duration Treasuries, where the duration effect will be most pronounced. That said, the Fed emphasized its data-dependent approach, leaving open the possibility of delaying cuts if inflation reaccelerates. With rate volatility still elevated, duration strategy requires careful management.
TLT vs. IEF: Choosing Your Duration Strategy
In a rate-cutting environment, the choice between TLT (20+ year Treasuries) and IEF (7–10 year Treasuries) is critical. TLT has a duration of approximately 17 years, meaning a 1% decline in rates would yield roughly 17% in price appreciation—but its annualized volatility of around 15% means large short-term swings. IEF, with a duration of about 8 years, would see roughly 8% price appreciation for each 1% rate decline, with lower annualized volatility of around 8%, making it more stable. If you have high conviction in rate cuts and are seeking aggressive returns, consider raising TLT to a 15–20% allocation while taking partial profits every 3–6 months. If you're more concerned about rate volatility, maintaining a 10–15% allocation centered on IEF provides a balanced combination of stable income and capital gains. A blended approach is also effective: a TLT 10% / IEF 10% split keeps duration at a middle level while positioning for rate direction. Use a rebalancing calculator to review your current TLT and IEF weights, and adjust duration quarterly in line with your rate outlook.
AGG as the Core of Your Bond Portfolio
AGG, the U.S. Aggregate Bond ETF, tracks the entire U.S. bond market—including Treasuries, corporate bonds, and MBS—making it the ideal core holding in a fixed income allocation. With a duration of approximately 6.2 years, it offers moderate rate sensitivity: lower than TLT but slightly shorter than IEF. Its expense ratio of 0.03% is among the lowest available, and with over 11,245 holdings, credit risk is extremely well-diversified. Its current yield of 4.8% exceeds inflation at 2.4%, providing a real return of +2.4%. In a rate-cutting environment, AGG benefits from both price appreciation and stable income, making it the ideal bond anchor for a 60/40 portfolio. Conservative investors (near retirement) might allocate 40% to AGG, balanced investors 30%, and growth-oriented investors 20%—supplemented with 5–10% in TLT or IEF for fine-tuned duration exposure. AGG pays quarterly dividends for steady cash flow and tends to have a negative correlation with equities during sharp market downturns, helping cushion portfolio losses. Use an asset allocation calculator to compare AGG allocations of 20%, 30%, and 40% to find the right balance between volatility reduction and expected return.
Opportunities in Corporate and High-Yield Bonds
Rate cuts also improve the investment case for corporate bonds (LQD) and high-yield bonds (HYG). LQD (investment-grade corporate bonds) offers a yield of 5.2%, providing a +130bp spread over Treasuries, with a credit profile centered on A-/BBB+ rated issuers that keeps credit risk low. Like Treasuries, LQD prices rise as rates fall, and despite the economic slowdown, default rates among investment-grade issuers remain very low at 0.5%. Adding a 5–10% LQD allocation to complement AGG can lift portfolio yield by 0.3–0.5 percentage points. HYG (high-yield bonds) offers a higher yield of 7.8%, but its BB/B credit ratings mean default risk rises meaningfully in a recession. Given the current late-cycle environment, HYG should be approached cautiously—limit it to 3–5% of the portfolio at most, and monitor economic indicators (ISM PMI, unemployment rate) closely. In an early-expansion environment, a 10% HYG allocation could be justified to pursue higher income, but for now a focus on LQD to manage credit risk is more appropriate. Use a rebalancing calculator to review AGG, LQD, and HYG weights quarterly, adjusting credit risk exposure in line with the economic cycle.
Putting Bond Portfolio Rebalancing into Practice
At the pivot from rate hikes to a pause, rebalancing your bond portfolio is essential. If your current allocation is 70% equities / 30% bonds (AGG), consider raising bonds to 35–40% to capture the benefit of falling rates, and adding 10% TLT within that to increase duration. If strong equity gains have pushed your stock allocation above 75%, trim 5–10% and rotate into bonds—buying AGG and TLT in a 70:30 ratio to balance core stability with rate sensitivity. Once rate cuts are fully underway (after 2–3 cuts), consider taking partial profits on TLT and increasing your AGG weight to enhance stability. A band rebalancing approach—setting a target bond allocation of 30% with a ±5 percentage point band (25–35%)—lets you rebalance only when the range is breached, minimizing transaction costs while keeping risk in check. Use an asset allocation calculator to simulate portfolio returns under rate scenarios of -1%, -2%, and -3% to determine the optimal duration strategy, and use a rebalancing calculator to review your quarterly execution plan—ensuring your bond portfolio delivers both stability and return in an era of rate volatility.
Conclusion
The Fed's shift to a rate pause represents a meaningful opportunity for bond investors. TLT offers the greatest upside from rate cuts but carries higher volatility, IEF provides more stability, and AGG is the ideal core holding. Use a rebalancing calculator to review your current bond allocation and duration, and an asset allocation calculator to evaluate expected returns under various rate scenarios—maximizing both the stability and profitability of your bond portfolio in an environment of continued rate volatility.
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