Market Pulse: Rising interest rates and volatile markets
June 17, 2013
Volatility often picks up over the summer as volume decreases, and we're seeing signs of it now. Daily moves of 100 or more Dow points are increasingly common. Recently, the rise in interest rates has spooked the markets.
Here's my take: It is extremely unlikely that we'll soon have conditions under which T-Bills, CDs, and money-market funds would be compelling buys.
Consider this: Under what conditions would the Fed raise short-term rates (the only ones it directly controls)? If we saw a rip-roaring economy with increasing credit demands, that would do it. Or if the employment picture improved dramatically. Or if inflation soared due to rising commodity prices and labor costs.
Are any of those likely this year or next? No. Far from it.
Goldman Sachs expects the Fed to begin to raise short-term rates in 2016. Yes, 2016. The Fed has said that as well and mentioned benchmarks for the unemployment rate (6.5 percent) and inflation (2.5 percent) that if sustained might trigger a rise.
We are not close to those. Short-term rates will stay low, so investors loading up on cash equivalents will be disappointed.
Long-term bond rates are a different matter. Those depend on investors' expectations for future inflation, credit demands and economic growth. Rates are rising now, but not due to inflation and only slightly due to a strengthening economy's impact on credit demands.
They are rising because the Fed will sooner or later stop buying bonds and end QE3. No one knows when they'll slow (referred to as "tapering") and then stop buying, but it won't be soon.
Here's one reason: The Fed does not want to see stock and bond prices falling much because the wealth effect will kick in and consumers will think twice about spending, or buying a car or house.
The auto and housing industries are doing well now. Higher rates would undermine their recovery and work against GDP growth. Higher rates will also raise the Treasury's interest cost, worsening the deficit.
Bottom line: We will see more volatile days over the summer, but investors' need for income will trump all worries about rising rates. Higher-yielding stocks remain attractive.
David Vomund is an Incline Village-based fee-only money manager. Information is found at http://www.ETFportfolios.net or by calling 775-832-8555. Clients hold the positions mentioned in this article. Past performance does not guarantee future results. Consult your financial adviser before purchasing any security.
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