Central Banks Hint at Changes on the Horizon


Bond yields took another step higher last week, as foreign central banks hinted at a shift in policy. The yield on the ten-year U.S. Treasury note rose seven basis points to 2.55 percent, its highest weekly close since last March. At one point on Wednesday it briefly hit 2.60 percent. The two-year note edged higher by four basis points to 2.0 percent for the first time in almost ten-years. Most of the move higher came on Tuesday after the Bank of Japan (BOJ) indicated it had reduced the amount of long-dated bonds it had purchased as part of its monetary stimulus program.

Market Sentiment Becomes Excessively Optimistic

What a way to start the new year! After meandering sideways for a couple of weeks at the close of 2017, as investors digested the impact of tax reform and in the face of year-end repositioning, stocks came roaring out of the gate in the first week of trading in the new year. The S&P 500 rose 2.6 percent in the holiday- shortened week, its best performance in over a year. The results were clearly a vote of confidence in the economy, as no fewer than five sectors gained more than 3 percent, led by energy, materials and technology, but also including consumer discretionary and healthcare. The laggards were utilities and REITs, both falling more than 2 percent.

What can Investors Expect in 2018?

As tumultuous as the social and political landscape was in 2017, the financial landscape was anything but. The S&P 500 gained just over 19 percent on a price-only basis (19.4 percent), nearly four times its average annual gain over the past twenty years, and it did so with record low volatility. The MSCI All Country World index rose 22 percent, approximately five times its average return of the past twenty years, also with dramatically diminished volatility. The yield on the ten-year Treasury note began the year at 2.44 percent, and ended it at 2.41 percent. It did trade in a 60-basis point range, but failed to establish any clear direction, mostly because trailing twelve-month core consumer prices fell from 2.1 to 1.7 percent. Shorter maturities were a different story. The two-year note yield rose from 1.19 to 1.88 percent, as the Fed raised the overnight rate three times in the belief that inflation, whose absence was a “mystery”, would eventually show up.

How will Tax Reform Impact the Markets?

The long-awaited and much anticipated tax reform bill is almost a reality. Votes still need to be taken in both chambers of Congress, and the president must sign it into law, but these steps appear to be mere formalities at this point. Of course, nothing is done until all the steps are taken, and there is still a sliver of uncertainty regarding the votes of several Republican senators. But at this juncture, the overwhelming odds are that the bill will pass and be sent to the White House before the week is out