Inflation hits 3% - We’re not talking about a random one or two measures of inflation, we’re talking about the entire range. CPI, PPI, PCE…maybe even wages. Over the longer term, the output gap will take years to close and that fact, along with the mountain of debt created, will serve as a natural disinflationary impulse. But the near term is an entirely different story. A synchronized global re-opening as vaccines are rolled out will create price pressures throughout the system. As consumers start to normalize their lives and consumption patterns, the combination of an existing supply shock and flattering base effects could shake the complacency on the inflation front. As we’ve seen in China, the tendency is for activity to return to normal very quickly once the virus is under control.
The 10-year U.S. Treasury hits 2% - So far during this crisis, we have said that government bond yields will be whatever level central banks want them to be. But has anyone noticed how the Federal Reserve (Fed) has already allowed a 40 basis points (bps) increase in the 10-year UST from ~0.6% for most of the Spring/Summer to ~1% currently? From 2011-2013, with the fed funds rate at 0%, the 10 -year Treasury traded in a range of 1.5%-2.0%. That seemed to be a very reasonable term structure for rates. If the Fed intends to keep the fed funds rate at 0% through 2023, why wouldn’t it be happy with a 1.5% 10-year given that this would imply very negative real yields, rising inflation expectations and accommodative financial conditions? Maybe the Fed is already on that journey, but we should expect that any whiff of inflation this year will bring out the bond vigilantes who could push the 10-year to 2% before the Fed shuts them down.
Turkey becomes one of the biggest bond market winners – A combination of political and monetary conflicts led to a dreadful 2020 for Turkish local market debt….down ~13.5% in unhedged USD terms. We think the policy stars will align for Turkey in 2021 and the flows into emerging markets will push local market Turkish debt plus currency returns to over 25%. An end to Central Bank of Turkey rate hikes, an economic recovery driven by the return of tourism and flows into an undervalued Turkish lira will be the drivers of return. There is still so much money looking for assets that have been left behind…and this is one of them.
Rising stars exceed fallen angels in the credit markets – Corporate balance sheets are certainly stretched and investors are concerned about credit ratings once the rating agencies return to their more normal surveillance of credits. But weaker companies have already defaulted or restructured and the rest of the corporate world has raised liquidity and put in place a very low cost of funding. If the grand re-opening of the global economy is successful, more companies could migrate from below investment grade to investment grade than vice versa. Europe has already seen its first rising star in Ericsson.
Bitcoin doubles – With central banks so committed to reaching and then overshooting their inflation targets, there is no realistic end to ‘paper’ money printing for the foreseeable future. It will continue to drive asset price inflation and encourage investors to look at alternate stores of value. While critics point out that bitcoin lacks many of the safeguards present in traditional currencies (enforceable exchange via rule of law, etc…), for current users that may be one of its most attractive characteristics. Is it a currency, commodity or an asset? Each has some store of value. The mainstream consensus on bitcoin remains a work in progress, which means the upside could still be considerable.
Forecasts, projections and other forward looking statements are based upon current beliefs and expectations. They are for illustrative purposes only and serve as an indication of what may occur. Given the inherent uncertainties and risks associated with forecasts, projections and other forward statements, actual events, results or performance may differ materially from those reflected or contemplated.