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Interest Rate Expectations and Stable Value

With the rise in interest rates and upward swing of the stock market many are wondering if the economy is rebounding and if the rising tide for stocks will propel interest rates upward. The Stable Value community is not immune to this speculation. However, Stable Value is unique in how it responds to market changes. Stable Value's virtues: stability and consistency in terms of principal and returns, which have appealed to investors during the dark days of the bear stock market, have now left many wondering how and if these virtues will be appreciated in the boom of a bull stock market.

SVIA conducted a brief poll of Stable Value managers and plan sponsors in August to see what they were anticipating. Half of the managers and plan sponsors asked (28 responses) participated in the six-question poll.

Five-Year Treasury Rates
SVIA asked respondents where they thought five-year Treasury rates would be over the next three years. At the time the poll was taken in late August, five-year Treasury rates were 3.45 percent.

Like most economic pundits, respondents did not predict dramatic rate increases. 89 percent of respondents thought five-year Treasuries will be between four to five percent in one year. 70 percent say Treasuries would stay in that range in two years and 61 percent in three years.

Interestingly, 12 percent of respondents think rates will hover around three percent over the next year. 31 percent of respondents predict rates will hit six percent over a two-year horizon. 23 percent of respondents believe rates will hit six percent and 15 percent think rates will hit seven percent over a three-year horizon.

Even though the majority of respondents expect higher rates, only 42 percent are planning communications to help educate 401(k) investors and the media about how Stable Value funds perform in a rising rate environment.

Expectations for 5-Year Treasuries

401(k) Investor Reaction to Rising Rates
When asked how they anticipate 401(k) investors in Stable Value funds will react to rises in interest rates, 65 percent anticipate some reallocation but no overall change in individuals' allocations to Stable Value. 12 percent anticipate a positive net cash flow to Stable Value funds and a remaining 23 percent anticipate a negative net cash flow to Stable Value funds.

Anticipated Reaction of 401(k) Stable Value Investors to Rising Interest Rates

Portfolio Adjustments
SVIA asked a series of questions to see if Stable Value managers were changing their portfolios in anticipation of increases in interest rates.

Duration
When asked if the duration of portfolios is changing, 50 percent of respondents said no. However, 46 percent report they are decreasing duration while another four percent report they are increasing duration.

Cash
85 percent report they are not making changes to the cash position in their portfolios. However, 15 percent report they are increasing their cash position.

Changes in Portfolio in Anticipation of Rising Rates

Credit Quality
69 percent report they are not adjusting the credit quality of their Stable Value portfolios. However, 27 percent report they are broadening their overall credit quality without changing the overall average.

Changes in Credit Quality in Anticipation of Rising Rates

Wraps and GICs
SVIA also asked if changes in the types of wraps or Guaranteed Interest Contracts (GICs) were being made. Not surprising given the nature of Stable Value, most report changes are not being made in the types of wraps.

Fifteen percent report increasing their use of GICs. That compares to a four percent increase in the use of additional wraps, both participating for all experience wraps and non-participating structures.

At the same time, four percent report they are decreasing their use of GICs and non-participating wraps structures. 8 percent report they are decreasing their use of participating for all asset experience wraps.

Lastly, a significant group of poll respondents report they don't use the different wrap structures or GICs listed in the poll. 50 percent of respondents say they do not use non-participating wraps; 31 percent say they don't use participating in all asset experience rated wraps; 19 percent do not use participating for all experience wraps; and 27 percent say they do not use GICs.

Changes in Wraps or GICs in Anticipation of Rising Rates

Conclusion
While interest rate expectations are just that, the poll shows rather than sitting back and enjoying Stable Value's moment in the sun, Stable Value managers and plan sponsors are thinking through possible market changes to ensure that Stable Value delivers what it promises: stability, principal preservation, and liquidity of a money market with bond-like returns.

Read Next: Is Wrapper Capacity a Concern?