What's On Tap...

As soon as the election results were in, investors began positioning their portfolios to take advantage of policies they expect to be implemented by the new administration. Many presume fiscal stimulus will be proposed which could increase inflation along with borrowing costs for the government.

In response, yields on U.S. 10-Year Treasuries have spiked over the last week and have broken the intermediate term downtrend as shown in the five year chart below.

Source: FactSet

Source: FactSet

Interest rates have increased in a short period of time – similar to the taper tantrum in 2013 when the Fed signaled an end to QE. In 2013, the rise in interest rates didn’t last long when inflation didn’t materialize and global growth stalled.  For this move to continue, a sustained pickup in inflation will need to occur, not just hope that inflation is coming. 

For several years strategists and commentators have anticipated inflation as a result of easy Central Bank policies. Inflation has remained subdued for much of the recovery as global growth has slowed due troubles in China and the Eurozone.  However, core inflation in the U.S. has been rising over the last 18 months and our feeling is that inflation will remain contained until wage growth returns.  Wage growth has been suppressed for the entire recovery; despite bottoming in 2012, wage growth is still below the levels seen at the end of the last recession.

Source: FactSet

Source: FactSet

The bond market experienced a swift repricing in the last week given expectations that inflation is heading higher. The rise in yields may have gone too far, too fast, if wage growth does not start to accelerate.  If wage growth does not continue to move higher, then inflation levels are likely to disappoint and the rise in bond yields could be short lived.

 
Charlie Toole, CFA, CFP,                                    Portfolio Manager

Charlie Toole, CFA, CFP,                                    Portfolio Manager

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