Equity markets pulled back this week, led by technology and growth stocks who benefited most from last year’s stay-at-home trends. Most pointed to rising bond yields as the cause behind the selloff, as higher rates make the future cash flows of growth stocks less attractive on a relative basis. The spike in yields has been significant year-to-date, with 10 year Treasury rates increasing by nearly 40% since December. Much of the increase in bond yields is tied to promising progress on the vaccine front and reopening of the economy, with many economists now predicted growth this year and next to be the strongest in decades. Guidance from the Federal Reserve was updated this week as well, with Chair Jerome Powell providing encouraging words to investors, soothing concerns over rising inflation expectations and bond yields. He further reiterated the Fed’s stance on keeping rates on hold near zero and continuing with bond purchases for the foreseeable future to keep financial conditions accommodative, as the labor market has a significant way to go to recover. Meanwhile, consumer confidence rose to a three-month high, and retail sales are expected to grow at the fastest pace in two decades with Americans ready to spend after a year of lockdown.
Rising bond yields are having a profound effect on asset prices, with investors recalibrating their expectations and rethinking their overall stock-bond allocations. This is especially true of risk parity funds, which target a given level of volatility for their portfolios made of equities and fixed income, and which will likely rotate more into bonds now that more attractive yields can be had. The fear many now have is a revisit of the Taper Tantrum in 2013, when 10-year yields moved from 1.7% to 2.8%. We believe this is not a repeat of 2013, however, when at the time the head of the Federal Reserve Ben Bernanke signaled the Fed would cut their bond purchases, causing a sharp rise in volatility. Current rate rises have been mostly driven by a combination of higher Treasury issuance, rising inflation expectations, and optimism that global growth is accelerating. We believe this is quite the opposite of the Taper Tantrum in fact, and that the Fed would likely take even more action to keep conditions supportive if they tighten much further, such as yield curve control. For this reason, we think yields are unlikely to rise significantly higher from here on a sustained basis, making current bond prices more attractive than we’ve seen over the past year.
We are taking advantage of some of these dips as an opportunity to add more to risk assets, as we believe the recovery is alive and well and that certain sectors of the market remain undervalued. The big moves in Treasury yields and market leadership has opened up windows of opportunity, and price discovery appears to be alive and well. Furthermore, if some areas of the market that appear to be in bubble territory cool off for a bit, that would be a healthy development in our view. As always, we continue to remain extremely focused on monitoring unfolding market dynamics and reacting only when appropriate. Please feel free to call our office with any questions you may have.