Return of the Taper Tantrum?

30 June 2017

In almost perfect alignment with the turn of the British summer weather, capital markets turned distinctly soggy over the past week. This, however, can for once not be blamed on the lately so hapless prime minister, nor Brexit. It is simply the result of disoriented markets and unfortunately quite aligned to what we had expected and feared. Well, that is less the marked fall in bond values, which makes this is a '˜market tantrum', rather than just an ordinary stock market correction. Why? Well, it does not occur very often that equity and bond market sell-offs happen at the same time. Usually as one of them falls, the other one rises - hence why the combination of the 2 asset classes lowers overall investment risk in portfolios so effectively.

So, is it what sounds like a cheap Hollywood sequel - the return of the taper tantrum? Back around the same time in 2013, stock and bond markets suffered similarly abrupt, but more severe losses, after the US Federal Reserve's then chair Ben Bernanke announced the central bank's intention to scale back their monetary support program (QE). On the back of currently very similar improvements in the European economic outlook, the Eurozone's chief central banker last week made known that he expected the era of '˜easy money' to also (finally) come to an end in Europe. The UK's Mark Carney likewise suddenly mentioned the possibility of rate rises, while the US Fed chair Janet Yellen reiterated their intention to continue with their gradual rate rises.

It would be wrong to assume markets were not expecting tightening monetary conditions in the foreseeable future and so the reason for them being spooked is, just as back in 2013, the fear that central banks may be acting hasty and thereby commit a policy error over the shorter term.  This is because against the backdrop of improving economic growth (except for stagnating Britain), there are various early indicators that suggest that there may be another growth-blip over the summer and autumn. Tighter monetary policy would be the wrong policy and stagflation the unenviable result.

We have concluded that markets are, like in 2013, overreacting because they are trading at extended valuations and everybody is aware of it. As we discuss in one of the articles in the main document this week, the seemingly concerted '˜miscommunication' by the central bankers may well have been a test-balloon to assess by how much they can get the markets to increase the cost of credit yields themselves without the central banks then actually having to raise rates or change their existing QE tapering plans. We suspect the bond markets will see the ruse fairly quickly and stabilise, while equity markets will continue to focus on further economic data flow, to assess by how much the expected growth blip may dent their corporate earnings expectations. We therefore expect equity markets to remain volatile.

In other news over the past week, the UK's financial regulator, the FCA, published its much-awaited report on the efficiency of the market for investment management services. Very close to our own door, we were intrigued whether the regulator's view matches our own observations from years of fund research. We found that we share their findings about how complex it is for retail investors to assess the return quality and value for money of individual investment options and very much welcome their initiatives to introduce information standardisation. This should reduce the effort we have to spend on tedious data cleansing and allow us to focus more on qualitative returns research and price negotiations - both areas, identified by the FCA as crucial catalysts for more effectively functioning markets.

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