Equities benefited in January as momentum from 2020 spilled over into the new year. Unfortunately, that momentum was short-lived as February witnessed a sharp drop in US equities as a rapid rise in the 10-year Treasury yield spooked investors. This was in large part due to inflationary fears that dominated the landscape over the course of Q1. In theory, higher rates lead to an increase in the cost of capital which discourages economic growth. That said, we feel as though interest rates remain historically low despite the spike, and that monetary policy per the Chair of the Federal Reserve Jarome Powell remains dovish. Furthermore, Powell has indicated that he will tapper monthly government backed asset purchasing, or quantitative easing, before considering an interest rate increase.
Coupled with documented gains in consumer spending in March, in large part due to the new administration’s rollout of a $1.9 trillion relief package, a more robust employment landscape, vaccine optimism and more generally speaking the prospect of the full reopening of the service sector economy all bodes well for equity markets. Keeping in mind potential challenges in the form of elevated valuations due to the historic year-over-year rise in asset prices and the potential for rising inflation despite dovish policy.
It is worth noting that regardless of monetary policy the longer-term outlook for rates appears higher than current levels. Following the February spike, the 10-year Treasury has settled in around 1.6%. A move higher (or significantly lower) is likely to generate additional volatility as fixed-income instruments reprice following decades long rate compression. We are conscious of and this potential outcome and just like on the equity side are continually monitoring underlying exposure within the fixed-income sleeve of the Tactical Allocation Portfolio (TAP). Bottom line, the bond market may be in for a bumpy ride for the remainder of the year and we feel well prepared for whatever it presents.
Needless to say, the equity sleeves within TAP were forced to initiate several risk management measures over the course of Q1. For the most part in late February and early March. Cash and cash equivalents were used to mute risk, as of mid-April, proceeds from sales have however been redeployed and the model is now fully allocated.
Similarly, the fixed-income model reacted to rising rates, reduced risk at the end of February and has since been redeployed as well.
As the reopening process continues in the US, ahead of most other developed countries in large part due to vaccine rollout, we can’t help but to think back over the previous 12 months. We recognize it has been a struggle for those we work with us, as it has in our offices and homes. We believe there is a light at the end of the tunnel and yet are here to help at every step along the way until we get there. Again, if you find you and your family are un or under employed, need to explore available resources to get you through to the end or simply feel now is a good time to revisit longer term planning please do not hesitate to reach out to any one of us at any time.
Fraser, Dudley, Alex, Josh, Christie & Melanie