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Bond Hike Causing Volatility

A hike in long-term government bond yields has been the primary cause of market volatility that we have been expecting for some time. The rise in interest rates, mainly in response to a perceived threat of higher inflation, has kept the predominantly good economic news in check. Manufacturing has improved to a three-year high and coronavirus vaccinations are slowly changing the pandemic outlook.

We see the recent interest rate moves as a type of “reset” as the economy recovers, and not a runaway trend. You can take heart in the fact that stock prices have a history of advancing during periods like this. And our bond market positions, while not completely Immune from interest rate increases, are thoughtfully selected to ride out a period of moderately rising interest rates.

While we agree that there is volatility ahead, we are comforted by the historical record… the market has a history of defying higher interest rates. While this may seem counterintuitive, it does make sense. We think the 10-year Treasury and the 30-year are rising for the right reason: The economy is improving.

We see recent developments in the bond market as an interest rate adjustment after a prolonged period of compression rather than a signal of runaway inflation. Although we have seen some evidence of a bump in inflationary pressures, Fed Chairman Jerome Powell told Congress a few weeks ago that inflation and employment remain well below the Fed’s goals. That means policy isn’t changing anytime soon. “Following large declines in the spring, consumer prices partially rebounded over the rest of last year. However, for some of the sectors that have been most adversely affected by the pandemic, prices remain particularly soft,” said Powell.

Powell later told congress, the economic outlook

remains “highly uncertain.” However, initial unemployment claims have been down three consecutive weeks, and retail sales remain strong. Also, recent progress in more fiscal stimulus means may will receive additional stimulus soon. There is light at the end of the tunnel.

A patient Fed and continued fiscal stimulus is a formula for continued gains in equities. We also remain bullish on emerging markets. The continued weakness of the US dollar has helped. EMs have outperformed developed markets since June 2020.History shows these periods can last a long time. For example, the last two significant periods for emerging markets outperformance (Jan’88 -Sep ’99 and Feb ’99 – Sep ’10) lasted 111 months.


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