The road to interest rate normalization in 2017

Holland 150 x 150Tim Holland, CFA, Senior Vice President, Global Investment Strategist

Since 1965, the Fed has implemented policy tightening 15 times and the impact on the bond market has not always translated into longer rates rising. For example, in 2004 the Fed began raising rates in response to concerns of a housing bubble. As a result, the bond market did well as the yield on the 10-year Treasury fell.

More recently, during the current market cycle, the Fed increased rates by 25 basis points in December 2015. The 10-year Treasury yield fell and the bond market generated a positive return while equities plummeted in the first quarter of 2016. A year later, the Fed increased rates by 25 basis points in December 2016. The impact on markets was minimal with both equities and fixed income generating strong positive returns in the two months that followed. Year to date, equities and bonds have rallied in the face of two rate increases by the Fed; first in March and then in June. We expect one more rate increase in 2017.

shutterstock_124163875 resizedCatalysts for higher interest rates

Many positive factors are currently present in the U.S. economy that justify and support a move toward interest rate normalization:

  • Stable U.S. economic growth. U.S. economic growth has been modest but steady. The new administration and an all-Republican government will try to stimulate the economy through reflationary policies including tax cuts, infrastructure spending and a more benign regulatory environment.
  • Supportive credit environment. High yield credit spreads have meaningfully contracted and are back to the tight levels we saw in 2014.
  • Inflation expectations. Historically, there has been a strong positive correlation between interest rates and inflation. Many of the anticipated policies of the Trump administration are inflationary. In addition, the Brinker Capital investment team believes the economy is in the second half of the business cycle, which is typically characterized by wage growth and increased capital expenditures—both of which eventually translate into higher prices. We expect inflation expectations to move higher.
  • Unemployment levels. The labor market has become stronger and is nearing full employment. Unemployment has dropped to a level last seen in 2001.

A rising rate environment should prove challenging for some areas of fixed income.  However, fixed income can serve as the ballast for a broadly diversified portfolio and a good counter to equity market volatility.  Our fixed income exposure is focused on strategies with below average duration and a yield cushion.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.

Fed continues on road to interest rate normalization

lowmanLeigh Lowman, Investment Manager

In a widely anticipated move, the Fed increased interest rates by 25 basis points on March 15, 2017, the second interest rate hike in three months and there are talks of potentially two more raises this year. Positive economic data and a rise in business confidence served as a catalyst for the Fed to continue its interest rate normalization efforts with the possibility of as many as two additional rate increases later this year. However, recent rhetoric from the Fed reaffirmed their commitment to move at a cautious pace, supporting Brinker Capital’s view that the process of longer term rates will likely be prolonged and characterized in fits and starts, rather than linear, as the market adapts to the new normal.

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Source: FactSet, Federal Reserve, J.P. Morgan Asset Management. U.S. Data are as of February 28, 2017. Market expectations are the federal funds rates priced into the fed futures market as of the date of the December 2016 FOMC meeting. *Forecasts of 17 Federal Open Market Committee (FOMC) participants are median estimates. **Last futures market expectation is for November 2019 due to data availability.

Catalysts for higher interest rates

Many positive factors are currently present in the economy that point to a move toward interest rate normalization:

  • Stable U.S. economic growth. Economic growth in the U.S. has been modest but steady. The new administration and an all-Republican government will likely further stimulate the economy through reflationary fiscal policies including tax cuts, infrastructure spending and a more benign regulatory environment.
  • Supportive credit environment. High yield credit spreads have meaningfully contracted and are back to the tight levels we saw in 2014. Commodity prices have also stabilized.
  • Inflation expectations. Historically, there has been a strong positive correlation between interest rates and inflation. Many of the anticipated policies of the Trump administration are inherently inflationary. Inflation expectations have increased accordingly and headline inflation has been moving towards the Fed’s 2% long-run objective. In addition, we believe we are in the second half of the business cycle, typically characterized by wage growth and increased capital expenditures, both of which eventually translate into higher prices.
  • Unemployment levels. The labor market has become stronger and is nearing full employment. Unemployment has dropped to a level last seen in 2007.

Historical perspective

From 1965 to present, the Fed has implemented policy tightening a total of 15 times and the impact on the bond market has not always translated into longer rates rising. For example, back in 2004 the Fed began raising rates in response to beginning concerns of a housing bubble and the bond market did well as the yield on the 10-year Treasury fell.

More recently during the current market cycle, the Fed increased rates by 25 basis points in December 2015. The 10 year Treasury yield fell and the bond market generated a positive return while equities plummeted in the first quarter of 2016. A year later, the Fed increased rates by 25 basis points in December 2016. The impact on markets was minimal with both equities and fixed income generating strong positive returns in the two months that followed.

Fixed income allocation

Traditional fixed income has historically provided a hedge against equity market risk with substantially less drawdown than equities. Although a rising rate environment would suggest flat to negative returns for some areas of fixed income, the asset class still provides stability in portfolios when equities sell off. For example, fixed income provided an attractive safe haven during the market correction in the beginning of 2016.

In an environment of rising rates, Brinker Capital believes an allocation to traditional fixed income is still merited as we expect the asset class to provide a good counter to equity volatility.

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Source: Fact Set, Brinker Capital, Inc. Index returns are for illustrative purposes only. Investors cannot invest directly in an index. Past performance does not guarantee future results.

Overall, much uncertainty remains on the timing and trajectory of interest rate changes. Brinker Capital remains committed to helping investors navigate through a rising rate environment through building diversified portfolios across multiple asset classes.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Brinker Capital, Inc., a Registered Investment Advisor.

Investment Insights Podcast: What a difference Fed meeting can make

Chris HartHart_Podcast_338x284, Senior Vice President

On this week’s podcast (recorded March 17, 2017), Chris discusses how the recent Fed rate hike has impacted the markets.

 

shutterstock_9514525 (2)

Quick hits:

  • Markets moved higher across the board which was a reversal from the flat to down trend that was in place for the last few sessions.
  • Most institutional investors do not have expectations of recession over the near term.
  • The economy continues to strengthen and we believe the case remains to be constructive on risk assets over the intermediate term.
  • Rates are still low by historic standards and even with the increase, the road to interest rate normalization will be long.
  • We continue to believe that a modest overweight to risk is prudent over the intermediate term, and as a result are not planning material changes to portfolio positioning at this point in time.

For the rest of Chris’s insight, click here to listen to the audio recording.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.

Investment Insights Podcast: Pointing towards a global re-acceleration

Hart_Podcast_338x284Chris Hart, Senior Vice President

On this week’s podcast (recorded December 12, 2016), Chris is back discussing how economic and market data have been more favorable and point towards a global re-acceleration.

Quick hits:

  • Risk assets continued to move higher
  • The past week saw a continuation of the “Trump Trade” where pro-growth and pro-cyclical areas of the markets fared best.
  • From an equity sector perspective, cyclicals such as Financials and Industrials continue to be the recipients of strong flows
  • Within fixed income, the credit backdrop remains supportive and treasury yields continue to rise.
  • Current expectations are for a hike in short term interest rates likely by 25 basis points
  • There is good participation across sectors and not the very narrow leadership environment we saw in 2015

For the rest of Chris’s insight, click here to listen to the audio recording.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.

Investment Insights Podcast: What a difference a week makes

Hart_Podcast_338x284Chris Hart, Senior Vice President

On this week’s podcast (recorded November 18, 2016), Chris is back discussing the swing in the markets that has ensued as a result of the election.

Quick hits:

  • By the end of the week, stocks posted gains of more than 5%, the largest weekly advance in two years.
  • However, we note that the rally has been massively rotational in nature rather than broad based.
  • Since the election, the dispersion of returns across has been high with equities moving higher and bonds selling off, domestic outperforming international, and small cap outperforming large caps
  • Much uncertainty remains ahead as the transition of U.S. leadership unfolds along with the strong probability of Fed action next month.

For the rest of Chris’s insight, click here to listen to the audio recording.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.

Investment Insights Podcast: Potential impact of the election results on the financial markets

magnotta_headshot_2016Amy Magnotta, CFASenior Investment Manager, Brinker Capital

On this podcast (recorded November 16, 2016), Amy reviews the potential impact of the election results on the financial markets. Here are some quick hits before you have a listen:

  • Historically, an all-Republican government, as we will have in 2017, has been the best scenario for markets.
  • While the policies of a Trump administration are still unknown at this point, from his positions as a candidate we expect more expansionary fiscal policy, which is bullish for stocks but more bearish for bonds.
  • The biggest concern of a Trump presidency is the impact on trade as he does have the ability to impose tariffs by executive action.

Click here to listen to the full podcast.

Source: Brinker Capital. Views expressed are for informational purposes only. Holdings subject to change. Not all asset classes referenced in this material may be represented in your portfolio. Indices are unmanaged and an investor cannot invest directly in an index. All investments involve risk including loss of principal. Fixed income investments are subject to interest rate and credit risk. Foreign securities involve additional risks, including foreign currency changes, political risks, foreign taxes, and different methods of accounting and financial reporting. Brinker Capital Inc., a Registered Investment Advisor.

Investment Insights Podcast: The market’s next likely source of uncertainty

Rosenberger_PodcastAndrew Rosenberger, CFA, Senior Investment Manager

On this week’s podcast (recorded November 4, 2016), Andy discusses the market’s next likely source of uncertainty – the Fed meeting in December. Quick hits:

  • Looking at the probability of a December hike, Fed Fund futures now peg it as a 76% change.
  • 3 month LIBOR rates, which are set by the market, have already risen by 25bps since June.
  • Wage growth looks to be finally increasing.
  • Inflation is now getting back to more normalized levels.
  • Whether right or wrong on inflation, we remain short duration in our portfolios and protected if markets do finally believe that inflation is a credible risk.
  • Our multi asset class philosophy gives us a number of different tools to defend against the risk of rising rates and inflation.

For Andy’s full insights, click here to listen to the audio recording.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.

Investment Insights Podcast: Four Areas of Focus in the Last Quarter

Raupp_Podcast_GraphicJeff Raupp, CFA, Senior Vice President

On this week’s podcast (recorded October 21, 2016), Jeff highlights four focus areas to watch during the last quarter of 2016: the Fed, earnings, signs of recession, and the election.

  1. The Federal Reserve. Watch for a tightening of interest rates in December and dovish guidance (maintaining low interest rates) for 2017.
  2. Earnings. Watch for improvement in earnings as the pressure of low oil prices on energy companies starts to roll off.
  3. Signs of Recession. Watch for indicators that the business cycle is over. We believe we are in the second half of the cycle, and while it has been about seven years, economic growth has been more muted.
  4. Election. Watch for volatility as elections tend to cause uncertainty in the markets. However, markets tend to bounce back following elections as some of the uncertainty fades away.

For Jeff’s full insight, click here to listen to the audio recording.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.

Investment Insights Podcast: Expectation for Positive Trend to Continue

Hart_Podcast_338x284Chris Hart, Senior Vice President

On this week’s podcast (recorded October 14, 2016), Chris provides a market update as we inch closer to the end of the year. Listen in as he discusses recent market performance and what we should look forward to.

Quick hits:

  • Dollar strength on the heels of a potential rate hike in December has been a headwind and weighed on stocks.
  • Despite being almost 90 months into a bull market with a 222% gain for the S&P 500, the second longest on record, the market is not showing many signs of topping out.
  • Stock valuations are elevated, but not alarmingly.
  • Our intermediate-term outlook remains positive and we don’t see many signs of recession in the near- to intermediate-term, but we do recognize that this a late-cycle bull market and risks remain.

For the rest of Chris’s insight, click here to listen to the audio recording.

The views expressed are those of Brinker Capital and are not intended as investment advice or recommendation. For informational purposes only. Holdings are subject to change. Brinker Capital, Inc., a Registered Investment Advisor.

Investment Insights Podcast: October Market & Economic Outlook

magnotta_headshot_2016Amy Magnotta, CFASenior Investment Manager, Brinker Capital

On this podcast, Amy reviews third quarter market activity and the themes to monitor for the rest of the year. Here are some quick hits before you have a listen:

  • The third quarter was marked by a continuation of muted global growth with risk assets posting solid returns.
  • Expectations for the next Fed rate hike moved further out on the calendar from September to December, further fueling risk assets. Fed rhetoric may create the dynamic where “good news is bad news.”
  • U.S. economic data releases have been mixed, but lean positive. Stronger wage growth, low inflation and low unemployment levels leads us to believe that while we are likely late in the business cycle, there is still room for growth before the next recession.

Click here to listen to the full podcast. A PDF version of Amy’s commentary is available to download as well. Find it here >>

Source: Brinker Capital. Views expressed are for informational purposes only. Holdings subject to change. Not all asset classes referenced in this material may be represented in your portfolio. Indices are unmanaged and an investor cannot invest directly in an index. All investments involve risk including loss of principal. Fixed income investments are subject to interest rate and credit risk. Foreign securities involve additional risks, including foreign currency changes, political risks, foreign taxes, and different methods of accounting and financial reporting. Brinker Capital Inc., a Registered Investment Advisor.