The Fed Tightens Monetary Policy

The week was volatile for stocks and bonds, and stocks fell slightly as did bonds. Last week, I discussed how TIPS aren't acting very well in Q3. They were weak this week.

A Look at the Market

The S&P 500 has returned 12.6% with dividends included, and the price is up 12.0% for SPDR S&P 500 ETF (SPY) in 2026 so far. This leaves the market on track to post a return for the full year right at under 18%. At the same time, iShares Core US Aggregate Bond ETF (AGG) has declined in price in 2026. With dividends included, the return has been -1.3%, which is well below cash.

The big story this week was the Federal Reserve changing Fed Funds. I did write about this on Medium, posting that it's not a big deal. The FOMC shared the news at 2 EDT on Wednesday, and stock sold off hard. They did rally the next two days. While SPY and AGG were both marginally lower, the U.S. Treasury market saw some sharp changes. For the week, the 2-Year increased by 13 bps to 4.76%, and the 30-Year fell by 2 bps to 5.33%. Year-to-date, the 2-Year has increased by 125 bps, while the 30-Year has increased by 49 bps. Here is the action of the past two years, which was from just ahead of the 2024 elections:

On the 17th of September two years ago, it was the day ahead of the FOMC cutting rates by 50 bps to 4.75-5.00%. This was expected. Since then, Fed Funds are down 1.50%, but the Treasuries have lifted.

I said that the Fed has tightened in the title of this week's update, and it has done so by raising Fed Funds to combat inflation. Will this end the war in Iran? No! More importantly, will this fix the massive federal debt? No! In fact, it may hurt it a bit, as higher rates end up costing the federal government potentially. The interest expense on debt is already a very large percentage of the current budget at a net cost of over $1 trillion in the FY26 budget.

The stock market doesn't seem too concerned, but perhaps it reflects that many investors believe that inflation will be coming down. While the Fed did just officially tighten, the table above shows how much the Treasury market has already done so. This week, the 30-Year Treasury yield didn't rise at all. In fact, it fell 2 bps.

Last week, I suggested that TIPS aren't performing well, and the move by the Fed to combat inflation could explain why investors don't care about them. The breakeven inflation, as I explained, is above 2% but below 2.5%. If the Federal Reserve can kill inflation with an increase in Fed Funds, this might explain why investors aren't concerned about inflation. I think it makes more sense to follow longer-term interest rates, and they have increased a lot this year. I depicted the entire Treasury curve above, and it has flattened a lot in 2026. It's important to look beyond Treasuries, as Mortgages and Corporate Debt matters too. Among the 90 ETFs I track and including 2 that I don't, it's pretty clear that Mortgages and Corporate Debt are doing better than Treasuries since the 2024 elections:

The chart shows the price action, and all are down in price. Of course, they pay dividends based on interest payments of the assets, and the total returns including the dividends are all positive. The weakest is GOVT at 3.64%, with USIG at 5.67% and MBB at 6.22%. All of these are lower than cash during this period. Exceeding cash has been the iShares iBoxx $ High Yield Corporate Bond ETF (HYG), which has returned 10.40%. Its price has declined 0.83%.

Bonds stink, as I have stated previously. Perhaps they will no longer stink! My job with this model portfolio is to beat the balanced index (60% SPY and 40% AGG). I am overweight fixed-income through TIPS ETFs, and TIP has returned 4.64% since 11/5/24, slightly less than AGG at 4.88% but higher than GOVT. Stocks though, have done much better, with SPY up 35.12% since then.

So, while the Fed may have officially started to tighten on 9/16/26, the market has been doing it for a while now. Stocks have been increasing and don't seem too concerned yet. I have boosted model portfolio stock exposure recently but remain substantially underweight relative to the balanced index. I am overweight fixed-income, but the exposure is entirely in TIPS. What the Federal Reserve Bank does over the next few years matters, but there are other things to watch that matter more, like control of the debt (very high) and economic growth (seemingly weak).

ETF Model Portfolio Update

This ETF model portfolio, which is measured against 60% SPY and 40% AGG, is up relative to its benchmark. This week, I did one trade again, which was published on here instead of on my Seeking Alpha blog. For those who would like real-time alerts (free of charge for now), just subscribe to the blog.

I posted no articles on ETFs or stocks this week.

Going into the week, my model portfolio equity exposure totaled 43.7%, spread out across two ETFs. Here is what I did this week:

• Monday: I increased ProShares S&P MidCap 400 Dividend Aristocrats (REGL) and trimmed Vanguard Short-Term Inflation-Protected Securities Index ETF (VTIP).

• Tuesday: I did that same trade of increasing REGL and decreasing VTIP.

• Wednesday: I reduced REGL and PIMCO 15+ Year US TIPS ETF (LTPZ), and I added to VTIP.

• Friday: I trimmed VTIP and added to iShares TIPS Bond ETF (TIP), LTPZ and ProShares Russell 2000 Dividend Aristocrats ETF (SMDV).

  
  

Here is the current model portfolio, which now has 49.7% equity exposure in two ETFs and fixed income exposure in three TIPS ETFs that total 50.3%:

I have been wrong this year, at least so far, as stocks keep rallying. The rally had been until Friday more than three months ago (June 5th), when stocks had their worst day of the year. Since then, the S&P 500 and the Russell 2000 have made new highs. Despite being underweight stocks all year, my return relative to the 60/40 index is higher by about 2.0% in almost months. As the S&P 500 and the Aggregate Bond Index fell, the model portfolio, which was down a bit more, underperformed the index.

The year-to-date strong relative performance is not due to superior returns on my current equity ETFs. My TIPS ETFs have done reasonably okay relative to AGG, but they aren't exactly boosting the return. So, what has it been? I have had positive returns from three ETFs, two of which I no longer hold and one of which is down a lot year-to-date that I just repurchased recently, and there has been some good trading.

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My ETF articles at Seeking Alpha, written under the alias The Intelligent ETF Investor, shared a lot of my ideas. I continue to share those ideas here on this blog.