Market Monitor: Rising Rates and Stimulus Effects

Brian Hughes |
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It’s been mostly good news for the economy so far this year.  Vaccine rollouts have ramped up, stimulus checks are going out, and economic data has boosted confidence. If you’ve tried to buy certain goods, like a fishing reel or an RV, you will know that people are out spending money.  I’m not sure which is the longer waitlist, the one for the vaccines or the one for that comfy-looking patio couch with Sunbrella cushions. In fact, consumer spending hit a seven-month high in January.  It not only shows that the economy is gradually recovering, but it also speaks to people feeling more confident to go out and spend. 

Remember, consumer spending accounts for roughly 70% of our countries GDP.  They spend when they are comfortable in their ability to do so and have the financial means to do so.  Even before the latest round of government stimulus that is going out now, consumers have the means.  According to Deutsche Bank’s research consumers have accumulated about 6 trillion in excess savings since last March.  When consumers are spending, businesses are doing business, and the economy grows.    

Equity Markets

Through March 14th:

  • The S&P 500® is up 6.02% (Green Line)
  • International Markets are up 3.75% (Orange Line)
  • Bond markets have gone down 3.25% (Blue Line)
Source: Kwanti

Remember the old see-saw analogy.  If you place interest rates on one side of the see-saw and bond prices on the other, you can visualize the relationship between the two.  When interest rates go up, the prices of bonds go down.  At the end of last year, the ten-year Treasury was paying 0.93%.  On March 15th, it is paying 1.62%.  By any means, receiving 1.62% interest per year in return for loaning your money to the government still seems like a feeble return.  Think about it relatively, though, in 3 and a half months, the yield has gone up about 74%.  That’s a significant increase, and the result has had some impacts on investments.  As you can see above, bond returns are slightly negative to start the year. 

Rising rates also have impacts on stocks for a couple of reasons.  For one, the math used by analysts to come up with a company’s worth uses the rates to discount cash flows.  Basically, higher interest rates lead to lower fair value estimates.  Investors have also been operating under a T.I.N.A.O. type strategy (there is not another alternative) when it comes to stocks.  Because yields were so low on bonds, the only way to make money was to buy stocks.  That’s a horrible investment rationale, but it is reality.  Again, a 1.62% yield on a ten-year bond seems feeble to me, but maybe it moves the needle for some.  Over the last months, we’ve seen volatility and pullbacks (especially in the growth styles and technology sector) attributed to the rise in interest rates.  Simultaneously, rising longer-term rates tend to help banks and have led them to solid returns of about 30% this year. 

What’s next

Markets look forward and are priced on what is expected to happen, not necessarily what is happening.  We are about one year out from when the economy started shutting down and when the market hit its lows.  Even in Florida, things aren’t entirely back to normal, and it is still much more restricted elsewhere.  Despite that, the economy still has a way to go; markets have already recovered and seemingly hit new highs regularly.

Things simply must continue to improve in the economy to justify the disconnect between the market and the economy.  That means vaccine rollouts need to be effective, restrictions need to continue to ease, and folks need to feel comfortable and able to go out and spend.  We are optimistic that can happen but not blind to the risks.  A slower vaccine rollout globally, increased taxes, and too high interest rates can all be speedbumps.   

We continue to believe it’s important to stay diversified.  Make sure your investing buckets match up to your comfort levels and your goals to make sure both the growth and income sides of your portfolio are ticking along.  Shoot us a message if you need any help. 

All information contained herein is derived from sources deemed to be reliable but cannot be guaranteed. All economic and performance data is historical and not indicative of future results. Asset allocation and diversification do not assure or guarantee better performance and cannot eliminate the risk of investment loss. As with any investment strategy, there is the possibility of profitability as well as loss. The Standard & Poor’s 500 (S&P 500) is an unmanaged group of securities considered to be representative of the stock market in general. The MSCI EAFE Index is a stock market index that is designed to measure the equity market performance of developed markets outside of the U.S. & Canada. The Bloomberg Barclays US Aggregate Bond Index, or the Agg, is a broad base, market capitalization-weighted bond market index representing intermediate term investment grade bonds traded in the United States. Investors frequently use the index as a stand-in for measuring the performance of the US bond market. Indexes are unmanaged and do not incur management fees, costs, or expenses. It is not possible to invest directly in an index.