INSIGHTS

On November 21, 2016

AAM Viewpoints - Taper Tantrum Replay or Is It the End of the Bull Market in Fixed Income?

With the results from the Presidential election, there came a market reaction that surprised many. The markets did the opposite of what the pundits thought they would do if Trump was elected: “The equity market would drop and Treasuries would rally.” As everyone knows, the opposite occurred. With the pullback, (lower dollar prices, higher yields), on fixed income investments came the question: “Is this a replay of mid-2013 commonly known as the ‘Taper Tantrum’ when interest rates rose rather violently follow by a total recovery over the following years or… is this finally the end of the bull market in bonds?” Great question. Do fixed income investors buy this dip or do they position defensively for further pullbacks?

From our view there are some basic fundamental differences between the current market environment and the market environment in 2013:

• On May 21, 2013, former Fed Chairman Ben Bernanke announced that the Fed would taper their monetary expansion. During the next month the Dow Jones Industrial Average dropped over 700 points at a low of 14,659 on 6/24/2013 and the 10-year Treasury rose in yield 61 basis points from a 1.92 yield to a 2.53 yield.


• After this year’s election, the Dow Jones gained about 650 points in basically 10 days from 11/7/2016 to 11/17/2016 while the 10-year Treasury rose just under 50 basis points to a yield of 2.30.

Although in both cases the pullback on the 10-year Treasury bond was similar, the reaction of the equity markets was completely opposite. I believe this speaks to a much healthier economy in 2016. In addition, the yield curve has been steepening (see AAM Viewpoints – Recession? We Don’t Think So; 30 vs 5 Spreads, 9/17/2016) which supports the assertion that the economy is in a good place.

The new administration has forecasted heavy spending in the infrastructure area (more debt) and along with potential corporate and personal tax cuts, would leave many to believe that there will be more than enough stimulus to fuel the economy and the inflation rate.

We believe this potential stimulus will give the Fed the political and public cover to raise the Fed rates. There have been four Federal Reserve tightening cycles in the last 20 years: 1994, 1997, 1999 and 2004. The length of the tightening cycles ran from one month (1994) to 25 months (2004) with largest total increase in interest rates of 425 basis points (2004).

We believe the potential rate increase in December will not be a one-and-done. It just remains to be seen how aggressive the Fed gets in response to recent events.

CRN: 2016-1107-5622R

This commentary is for informational purposes only. All investments are subject to risk and past performance is no guarantee of future results. Please see the Disclosures webpage for additional risk information. For additional commentary or financial resources, please visit www.aamlive.com.