TSP

If TSP investors leave money in the G Fund, it is guaranteed not to lose money nominally, but slowly chips away at purchasing power at current rates. On the other hand, if they invest heavily in the equity funds, they have more upside exposure, but also a lot more volatility risk.

Lyn Alden

The G Fund has historically been an excellent savings vehicle since the 1980s, and unique for federal employees.

Usually, longer-duration Treasuries pay higher yields than shorter-duration Treasuries, but have higher volatility. The G Fund pays interest rates that match a weighted average of longer-duration Treasuries, but do so without the volatility, which is what makes it unique.

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The problem, however, is that while Treasuries used to pay higher interest rates than the underlying inflation rate, that’s no longer the case.

This chart shows the 10-year Treasury yield minus the inflation breakeven rate, also known as the “real” interest rate:

Chart Source: St. Louis Fed

Real interest rates are currently the lowest in recent history, at -1%. They were briefly negative in 2012, but reached even lower levels here in 2020.

This makes it very hard for investors to save money, and pushes them out on the risk spectrum. If they leave money in the G Fund, it is guaranteed not to lose money nominally, but slowly chips away at purchasing power at current rates. On the other hand, if they invest heavily in the equity funds, they have more upside exposure, but also a lot more volatility risk.

For many investors, a blend of both equities and fixed income is a good solution. Investors can also use other accounts, such as an IRA, to expand the set of investments that they can have exposure to, including precious metals, commodities, digital assets, emerging markets, or individual stocks. Regardless of the path chosen, it’s not an easy environment.

Turning the Tides

Some investors can use this unusual rate environment to their advantage by being on the other side of the equation: as the payer of interest. Mortgage rates are also historically low, and while they’re not quite as low as inflation, they’re not much above it.

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For example, a 15-year mortgage rate is only about 0.3% above the expected inflation rate, meaning it’s nearly free:

Chart Source: St. Louis Fed

For homeowners, it’s not a bad time to see if refinancing would be beneficial for your situation and save money, given the sharp decline in mortgage rates recently. These low rates have also caused a bit of a housing boom as well. Of course, it’s important not to have debt that can’t be safely covered by income, but homeowners may be able to pay lower rates on existing debts.

Market Update

The S&P 500 index, tracked by the C Fund, is roughly at all-time highs, and currently has positive momentum indicators:

However, as of Monday morning, the index is undergoing a sizable correction on news of a virulent new strain of the virus in the UK. We’ll see if it’s a short-lived sell-off, or something that becomes more significant and long-lasting.

Notably, as of this writing, Tesla is now part of the S&P 500 as the sixth-largest holding out of the 500 companies in the index.

Tesla is the largest stock ever added to the S&P 500 in terms of market capitalization, because there has never been a public US company that reached a valuation this big without meeting the S&P 500 requirements before, mainly because those requirements include profitability. Market capitalization is the measure of a company’s market value, based on the number of shares in existence multiplied by the price of those shares. In terms of revenue, Tesla is not huge, but in terms of market value, it is, because investors are paying a very high multiple of revenue for the stock.

Tesla stock soared in price back in November when S&P made the announcement, and along with its earlier performance this year, is now up over 700% year-to-date, despite only increasing car deliveries by 25% so far this year. So, S&P 500 investors, including C Fund investors, are buying in at a very expensive price.

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Tesla is currently worth more than the next nine largest global automakers combined, but makes less than 1% as many cars as they collectively do. So, Tesla trades at a price-to-earnings ratio, price-to-sales ratio, and other valuation metrics that are far above most comparable stocks.

Chart Source: Research Affiliates


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Lyn Alden is a financial writer and an engineer, and holds a bachelor’s in engineering and a master’s in engineering management, with a focus on financial modeling and resource management. She specializes in analyzing and presenting financial data. Her investment work can be found on LynAlden.com.

FERS Retirement Bundle: 2021 FERS Guide & TSP Handbook