By Lawrence C. Strauss

The bond market has been giving investors fits lately. Normally a source of stability for portfolios, bonds have been tremendously volatile in the weeks following President Donald Trump's April 2 unveiling of a series of tariffs. While bonds often rise as stocks drop, they fell hard, just like stocks, in the days after the announcement. The fears: Inflation will rise, economic growth will slow, and the U.S. will lose its aura of invincibility. The 10-year U.S. Treasury note is now yielding around 4.2%, up from about 4% in early April. Bond prices and yields move inversely, meaning that the 10-year Treasury has sold off, albeit in jagged fashion.

To make sense of the goings on, we called Rick Rieder, 63, chief investment officer of global fixed income at BlackRock, the world's largest asset manager. He oversees some $2.7 trillion of assets and helps run the $41 billion BlackRock Strategic Income Opportunities fund (ticker: BASIX). As of April 25, its one-year return of 7.84% placed it in the top 25% of its Morningstar category. The fund invests across multiple bond classes, including agency mortgages, sovereign credits, and high-yield debt. Lately, Rieder has been emphasizing higher credit quality and shorter maturities, to help cushion the bond market's volatility. An edited version of the conversation follows.

Barron's : Treasury yields have been far less than stable this year, especially since the Trump administration rolled out its tariff policy. What is the bond market signaling?

Rick Rieder: There is a debate in the markets about growth and inflation. It seems as though inflation will be higher under almost any scenario, and that has pushed up bond yields. The front end of the yield curve [short-term maturities] has done better partly because of expectations that the Federal Reserve will react to any growth scare by cutting interest rates. We expect rates to be lower in the next two to three years. The bond market is wrestling every day with how much inflation there will be, and how weak or strong the economy and job market are.

The size of the Trump administration's tariffs is historic. There is no analogue for it. That's why we are seeing volatility in the markets. It is hard to figure out geopolitical relationships, and the implications for various industry sectors.

What is the role of bonds in a portfolio today?

There has been a 180-degree shift in their role. People used to view bonds, particularly long-end interest rates, as the ballast for and protection engine in a portfolio. Then we lived through almost a full decade of things like negative interest rates in Europe and Japan and zero interest rates in the U.S. Now, though, people are rethinking their fixed-income allocation. They can get 6% or 7% yields in quality assets, without having to go out on the yield curve. That can serve as a great stabilizer in a portfolio. It is almost a complete reversal from where markets were 10 or 20 years ago. People are asking more from their bond portfolios than they used to. A bond allocation isn't just a savior when everything else goes wrong; it can be an additive part of a portfolio, which, if managed right, can be stable when other things are volatile.

What's ahead for interest rates?

We're in an environment where we are going to have higher inflation than we have had historically. We also have debt levels in the U.S. that are too high, so it means that interest rates are going to stay higher than they historically had been. But that doesn't mean that we are always going to be able to achieve the 6% to 7% yields that we have today. My base case, in fact, is that rates will be lower. They could go higher in the near term, particularly long-end interest rates. But my sense is that we're moving to lower interest rates compared with current levels.

The thing people don't talk about -- and that I expect to be a driver of lower rates -- is that the world is moving to a place of higher productivity and automation. In the next couple of years, people will be surprised by how much of an impact that will have on inflation. Is it something that will play out in the next few months? Very slowly, if at all. But over the next couple of years, I expect productivity, along with automation technology, to change the world. As a result, interest rates will be lower, particularly if some of the deficit spending slows.

What kind of adjustments have you been making to the portfolios you manage?

With yields having backed up recently, it gives us the ability to be a bit higher quality with our holdings and still achieve those yield levels of 6% to 7%. And with an economy that's slowing, we've reduced some of our lower-quality, high-yield bonds and leveraged loans.

We've increased some of our mortgage exposure. We've been adding to agency mortgages, which yield in the mid-5% range. They are more liquid, higher quality, and they've gotten cheap, as the investment-grade credit market has done. As for nonagency mortgages, the residential housing market, from a loan-to-value basis, is in good shape. Inventory levels are low, and unemployment is still quite low. So we like nonagencies as well. They are yielding in the 6% neighborhood.

Is anything catching your eye in the asset-backed securities market?

Because the housing market's inventory levels are low, my sense is that lending in the residential market will still be in good shape. But buying commercial mortgages in retailing doesn't make a lot of sense. Neither does suburban office, class B. But domestic warehouses and logistics centers are going to be a bigger part of a more national ecosystem. There's an incredible change taking place around hospitality and hotels.

There's been a cultural demographic shift into more travel, more quality of life, and more experiences. Those are areas where we see greater demand and more long-term stability. The nice thing about the securitization market, including in broader asset-backed assets and collateralized loan obligations, is that you can stay in high quality. We tend to stay in AAA-rated asset backs. Being in the areas where there's collateral that protects you is hugely important.

What about your credit holdings?

For the near term, we've been a bit more cautious around credit exposure. In high yield, we still hold bonds rated B and BB. It's historic how good the credit quality there is, because post-Covid, companies [pushed out the maturities] of their debt. Default rates are going to pick up, but the credit quality in B and BB is good enough to carry it through. What has driven a lot of volatility in the high-yield market in the past few weeks has been certain sectors such as retailers, autos, and parts of technology. We have minimal exposure to those sectors, and minimal exposure to CCCs [at the low end of high-yield credit quality]. In [leveraged] loans and some sectors, we've tried to reduce some of that exposure to stay a bit higher in quality overall there, as well.

We've also taken some of our interest-rate risk in places like Europe, where growth is slowing and the European Central Bank has to cut rates. So we have some exposure to sovereign debt, including Spain. It's a high-quality sovereign credit.

What will you be watching as the Federal Open Market Committee gets set to meet on May 6 and 7?

The Fed is in a tricky spot, and I expect they're going to wait for more data. You've got inflation that's still too high, and with tariffs it could be markedly higher. At the same time, the hard data hasn't really softened that much. It's the soft data, the surveys, that have really slowed, but surveys are wrong a lot. So we're in this period where the Fed needs to see the soft data translate into a slowdown in hard data, particularly in hiring. Over the next two to three months, those payroll numbers are going to be fascinating around certain sectors, to see if you are getting a tangible slowdown. I expect the Fed at its next meeting will have a discussion about what would be the catalyst for them to lower interest rates. That's different than what we're seeing today, with the hard data still being solid. It's important to remember, though, that at any time in history, particularly post-tariffs, the hard data can transition very quickly and very profoundly. The Fed needs to see that, but they won't see enough evidence of that before this next meeting.

When do you think the tariffs will really start to affect the economic data?

There was definitely some buying in some of the consumption assets, like autos, in advance of these tariffs. So, the data today are being flattered by some pull forward. But the data we're going to get, starting in April but more so in May and June, are going to be reflective of these tariffs, particularly the tariffs on China and Asia broadly.

Trump has been quite critical of Fed Chairman Powell. Is that having effects on the bond market?

Markets like certainty. Markets despise uncertainty. Particularly for the bond market, especially in the front to the belly of the yield curve but also out on the curve, the biggest driver and influence is what happens at the Fed. So, markets get disrupted when there's concern around change there. But my sense is that some of the recent commentary about "maybe you won't see significant change at the Fed" is part of why all of a sudden you see the bond market stabilize. The Fed is one of those institutions that is viewed as being responsive to economic change. And if any of that gets disrupted, the markets have a hard time dealing with that.

Any parting thoughts?

I just don't think being a hero in fixed income makes a lot of sense. My view is: diversify. I call it, "Make a little bit of money a lot of times."

Thanks, Rick.

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