NN IP: Taper tremble

Markets are in full swing. Bond markets are correcting as a "taper tantrum light” is disrupting European government bond markets. Other market segments are obviously also impacted by these moves, but the degree of contagion into other asset classes or regions is clearly less dramatic than what was seen at the “real” taper tantrum of four years ago. Back in May 2013, former Fed chairman Ben Bernanke had started to hint at a reduction in the Fed's pace of QE which triggered a sharp correction in almost all asset classes. Not only did bond yields rise at least twice as much as they have done in recent weeks, but also spread products suffered much more. EMD HC spreads, for example, jumped more than 70 basis points, while they are only 10 bps higher now. Moreover, global equities and real estate have lost some ground now as well (1% and 6% since their recent peaks in May/June, respectively) but these moves pale in comparison to the substantial sell-offs of more than 9% in equities and over 16% (!) in real estate in May/June 2013.

Looking at global markets today it therefore seems more like a taper tremble than something worse that has rippled through markets recently. And to a large extent this is understandable, since central bankers in the US, Europe and Japan have actually said very little new. Markets have interpreted the recent statements as more commitment towards a gradual unwinding of the unconventional QE policies that have been put in place in the post-Lehman era. The Fed has signalled it is willing to look through a soft patch in inflation dynamics, while the ECB still seems to be steering towards (a further) tapering of QE from next year onwards despite falling probabilities of actually achieving its own inflation forecasts for 2018/19.

At the same time, however, has the market understood very well that a background of strong, but steady growth with continued lack of upward pressure on inflation and wages (look at last week's payroll report in the US with strong jobs creation, but weak hourly earnings growth!) does not suggest that actual rate hikes by the Fed or the ECB are becoming more likely.

So, those pockets of the market most sensitive to a direct influence of QE, like German Bunds (leading to a technical scarcity) and peripheral bonds, have seen a serious correction. Other assets that are more influenced by rate hike expectations (US treasuries) or changing prospects for global growth, earnings and defaults (equities, credits, HY/EMD, etc.) have held up much better, as the outlook for those "fundamentals" has not materially changed.

What has changed a bit more is the behavioural side of the equation across asset classes. Trends in prices and flows have rolled over for some risky asset classes and big data analytics of investor sentiment are also turning a bit more cautious. Finally, positioning metrics for especially German government bonds have also normalised from being over-owned in recent weeks.

All in all, these behavioural dynamics have triggered us to scale back a bit on the aggressiveness of our allocation tilts, but have not altered the direction of our thinking. Therefore, we have reduced the underweight in (German) government bonds to a small conviction stance, while we have also reduced our overweight in fixed income spread products from medium to small. We also brought the rate-sensitive real estate exposure back to neutral. More important than the potential impact of rising yields on real estate was however that the retail segments of both US and European commercial real estate are showing increasing signs of trouble with digesting digital disruption in retail space. Still, a taper tremble or not, our allocation stance remains tilted towards a further growth recovery and positive returns in risky assets.