- Fixed Income Portfolio Manager
- About Us
- My Account
The views expressed are those of the author at the time of writing. Other teams may hold different views and make different investment decisions. The value of your investment may become worth more or less than at the time of original investment. While any third-party data used is considered reliable, its accuracy is not guaranteed. For professional, institutional, or accredited investors only.
One of the discussion topics du jour is how the credit and equity markets might react to the US Federal Reserve (Fed) interest-rate hikes that are widely anticipated in the coming months. As is often the case with me, I find it helpful here to refer to past hiking regimes and market performances as a sort of guidepost.
To wit, I examined the historical returns of both US credit (for this purpose, proxied by corporate high-yield bonds) and US equities (represented by the S&P 500 Index) during the six months before the first rate increase of a Fed hiking cycle through the 12 months after said increase. The data demonstrate that both markets not only performed well heading into the first hike (although there’s some circularity because the Fed likely wouldn’t hike amid sharply falling markets), but also that both were able to sustain their positive performance for nine to 12 months after rate hikes commenced.
Specifically, we can evaluate US high-yield bond performance by looking at the market’s returns in excess of those of duration-matched US Treasuries during six cycles dating back to 1994. As shown in Figure 1, high-yield market results were generally strong leading up to the Fed’s first rate hike, but also remained positive after the onset of rate hikes. US equities sent an even more resounding message, outperforming for well over a year following the first rate hike.
My high-level conclusion from this analysis? In my view, it’s probably too early for investors to start positioning their portfolios defensively in preparation for a potential Fed-induced economic correction. As Alan Greenspan once famously said, “Monetary policy works with long and variable lags.” It typically takes a year or more after the Fed has raised short-term rates significantly for an economic contraction to set in and for risk assets (including both credit and equities) to respond in kind, sometimes by crashing. That’s precisely why the US yield curve has historically been such a great predictor of economic recessions and market returns.
Thus, I’d suggest waiting until short rates are at or above the level of the 10-year US Treasury yield rate before betting on a recession and positioning one’s portfolio to align with that view.
In a word, inflation. The above analysis covers a lengthy (roughly 30-year!) period of secularly declining inflation. By contrast, some of my colleagues currently expect global inflation to stay stubbornly above central bank targets over the medium term (with perhaps some moderation in the next few months). Might persistently high inflation cause central banks to behave differently this time around than they have in the past? Maybe.
To be clear, I don’t think most central banks will tighten monetary policy so aggressively as to risk pushing their economies into deep recession — like former Fed Chair Paul Volker did in 1981 to break the back of double digit inflation — but they may be inclined to accelerate the pace of tightening relative to previous rate-hiking cycles. This is something investors should keep a watchful eye on going forward. I know I will.
Should investors prepare for a rate hike in Japan?Continue reading
Macro implications of the AI revolution: is the market right?Continue reading
2024: a year of intensifying macro regime change?Continue reading
The great central bank balancing actContinue reading
You snooze, you may lose: The case for bondsContinue reading
Early 2024 resolutions: Enjoy the yield but be smart with your surplusContinue reading
Why global investors should watch the Bank of JapanContinue reading
Should investors prepare for a rate hike in Japan?
Investment Directors Marco Giordano and Masahiko Loo discuss why a rate rise in Japan may occur sooner than markets expect.
Macro implications of the AI revolution: is the market right?
Macro Strategist John Butler sets out an initial framework to help answer key questions about the potential macro impact of artificial intelligence.
2024: a year of intensifying macro regime change?
John Butler and Eoin O’Callaghan explore why 2024 could be a year of intensifying macro regime change and what it means for investors.
The great central bank balancing act
Marco Giordano examines the difficult balancing act that central banks around the world are seeking to perform and its likely implications for investors.
You snooze, you may lose: The case for bonds
There are signs the Federal Reserve's rate-hiking cycle may be nearing an end, but some uncertainty remains. With that in mind, Multi-Asset Strategist Nanette Abuhoff Jacobson considers the timing of a move from cash to bonds.
Early 2024 resolutions: Enjoy the yield but be smart with your surplus
What should insurers expect from markets as we approach the end of the year? Tim Antonelli, Head of Multi-Asset Strategy – Insurance and Portfolio Manager, offers his views and identifies areas that may be worth a closer look.
Is bad news for the economy actually good news for markets?
While it has taken longer than expected, higher interest rates are starting to take their toll on the global economy and the "bad news is good news" market narrative could be changing. Members of our Investment Strategy team offer their macro and market outlook, including their latest views on equities, bonds, and commodities.
Long/short investing in European equities' growing dispersion
We explore how growing dispersion in European equity markets is driving opportunities for long/short investors, fueled by structurally higher inflation, changing market leadership, and a renewed focus on valuation.
Private credit in a new regime
We explore how a shifting macro backdrop, ongoing banking crisis, and evolving competitive dynamics may create opportunities across private credit markets.
Credit market outlook: Expect greater opportunities in back half of 2023
Against a backdrop of elevated recession risks and banking-sector stress, Fixed Income Portfolio Manager Rob Burn identifies relative-value sector opportunities in the credit market.
Why global investors should watch the Bank of Japan
Macro Strategist John Butler explores why global investors should watch the Bank of Japan and what is likely to happen next.