In light of our commentary on bond markets yesterday, I thought that I would treat you all to the most recent commentary by one of the world's foremost economic thinkers:
These 2 charts will help you through Dr. El-Erian's yield curve discussions:
1) US yield curve:
Dr. El-Erian will posit (somewhat in contrast to our opinion at High Rock) that the flattening of the yield curve in the US is not necessarily indicative of a recession there (as it might be traditionally and certainly was in 2007). We would agree on the basis that usually it would need the US Federal Reserve to raise short-term interest rates to trigger the yield curve flattening and the ensuing recession.
However, there are plenty of risks to the financial system via the banking / financial sector that may result from flattening yield curves.
And as my business partner Paul suggested on yesterday's High Rock weekly client webinar ( http://www.highrockcapital.ca/current-edition-of-the-weekly-webinar.html ), there is trouble in Italy (banks) now and it could easily create a contagion effect.
2) Global yield curves
Japanese yields are either negative or very close to 0% across a very flat yield curve. There is not much difference in German yields either (although the curve is a bit steeper).
And as Dr. El-Erian states: "the lower yields will also amplify worries about excessive risk taking by non-banks. As they try to meet unchanged - and increasingly unrealistic - objectives, investors are likely to stretch even further for financial returns, increasing the risk of financial instability down the road."
Some might suggest that central banks will bail the system out again. We might suggest that this is not so easily done again, especially after the failure of the Bank of Japan and the European Central Bank's most recent experiments with negative rates.
The standard 60/40 balanced and diversified portfolio may not produce the same historical results as it once did for some time to come.
Adding a conservatively tactical approach may be your best bet for reasonable and better risk-adjusted returns for that time to come.
Feedback, questions, concerns, ideas....
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Scott Tomenson,CIM Managing Partner, Chief Investment Strategist