While the mass exodus of bonds precipitated by Donald Trump’s election win has been jarring for many, many analysts are still not expecting a true “great rotation” back to equities, according to a report from the Financial Post
“Back in 2012, when expectations were that higher interest rates were just around the corner, many fund managers talked about preparing their clients for the great rotation: money leaving bonds and pouring back into equities,” said the article.
The recent bond rout following the US election saw US$18 billion pulled out in one week by US investors alone, coinciding with a record $28 billion inflow into stock-focused ETFs.
It has been “a tough two weeks for bonds,” as described by CIBC World Markets Chief Economist Avery Shenfeld, but it has not been as intense as the rout in 2013 following the Fed’s announcement that it was ending its third round of quantitative easing. Ten-year treasury yields touched 3% on two separate occasions during the 2013 scramble out of fixed income; the Trump rout has had them hovering at 2.3% – though the figure is still impressive considering that they were at 1.6% just two months ago.
Bank of America Merrill Lynch Chief Investment Strategist Michael Hartnett, who coined the term “great rotation” in 2011, pointed out that a true sustained rotation still has a long way to go: US$1.5 trillion has flowed into global bond funds in the US over the past decade, while mutual fund flows and ETFs have seen zero fund inflows.
Affecting analysts’ outlooks at the moment are President-elect Trump’s promised fiscal spending and tax cuts, which are seen to stoke inflation; a Fed rate hike expected next month; and two-year projections that do not foresee many rate hikes from the Fed.
Shenfeld said that bond markets seem to be pricing in a 10-year breakeven inflation rate of 2%, based on a comparison of current bond yields to inflation-linked securities. “That hardly sounds like the bond market is excessively worried about inflation at this point,” he said.
Analysts at Citi agreed, saying that current bond movements don’t necessarily reflect fear of impending hikes, and rather represent an alignment with economist forecasts of gradual hikes until 2018.
“While we do not disagree with the repricing of 2017 Fed hike expectations, we are not convinced that the prospects for a yet-to-be-determined fiscal stimulus should compel the Fed to be preemptively more hawkish,” they said.
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