Top Weekly Themes
- Some Volatility Returns to Bitcoin. After an epic run from $5,000 to $55,000 over the last year, we saw a bit of volatility in the price of Bitcoin last week. From its February 19 all-time high, the price of Bitcoin is down about 18%. Any investor who considers Bitcoin as an investment must understand how volatile it can be. 30%-plus drawdowns are business as usual for Bitcoin, with six such declines from 2016 to the 2018 high. Since then, the wild ride has continued, with drawdowns of 82% and 55% on its way to current levels. To be sure, there is nothing particularly wrong with this kind of volatility, but investors should understand that dramatic price fluctuations are likely to be a feature of a Bitcoin investment going forward. The simplest argument for owning Bitcoin is as a hedge against the sustainability of the monetary and fiscal path on which America finds itself – money supply (M2) grew at a 25% annual rate in 2020, the assets on the Fed’s balance sheet have increased by nearly 10x in the past 12 years, and the twin deficits are starting to approach 20% of GDP. The biggest long-term risk, in our view, is attacks from central governments that have a significant interest in maintaining a monopoly on currencies.
- Where to be when rates rise. Last week long-term interest rates increased, with the 10-year U.S. Treasury yield breaching 1.50% for the first time post-COVID. In part, we believe this is the bond market finally starting to price in the acceleration in economic growth we believe is likely in the quarters ahead. For stock investors, the question becomes what areas of the market tend to perform best in rising interest rate environments. According to an analysis by Empirical Research Partners, the more defensive cohorts of the market – high dividend yield stocks, fundamentally-stable businesses, and low-beta/volatility stocks have generally faced headwinds in years when rates have risen. Interestingly, value stocks have historically been the best performing cohort in the second year after a major market trough…a time when interest rates tend to rise.
- Unloved, yet outperforming. Real Estate Investment Trusts (REITs) aren’t on the top of most investors’ buy lists. The challenges presented by COVID-19 have been particularly difficult for many areas of commercial real estate, and REITs have trailed the S&P 500 by nearly 30% over the past 12 months. We see the tides beginning to turn for REITs, and believe they are a way to capitalize on improving economic fundamentals. As many investors have rushed into other cyclical areas of the market to take advantage of the “re-opening,” REITs remain uncrowded and unloved. It may come as a surprise that REITs are outperforming the S&P 500 by about 3% so far in 2021. The actual exposures when investing in a REIT index fund may also be unexpected. Specialty REITs, such as communication towers, data centers, and storage facilities make up almost 45% of such index funds. These areas of real estate have been far less impacted by the pandemic, and in some cases been a beneficiary. Certainly not the typical exposures most people think of when they think about investing in REITs.
|Equities||Week (%)||YTD (%)||1-Year (%)||3-Year (%)||5-Year (%)||Div Yield (%)|
|Russell 1000 Value||0.7||6.2||15.3||8.13||12.08||2.03|
|Russell 1000 Growth||(5.3)||(1.1)||37.0||20.39||21.93||0.72|
|MSCI EM (Emerging Markets)||(2.9)||7.3||34.3||7.29||16.58||1.85*|
|Fixed Income||Week||YTD||1-Year||3-Year||5-Year||Div Yield|
|Bloomberg Barclays US Aggregate||(1.5)||(3.0)||1.3||5.04||3.35||1.53|
|Bloomberg Barclays US High Yield – Corporate||(0.5)||0.8||7.7||6.72||9.28||4.23|
|Bloomberg Barclays Municipal Bond||(1.5)||(1.0)||1.3||4.80||3.40||1.28|
|Bloomberg Barclays Global Aggregate x US (Country)||(0.2)||(2.4)||7.2||2.87||3.60||0.91|
|Crude Oil WTI (NYM $/bbl) Continuous||5.0||30.9||27.3||(0.0)||13.9||63.5|
|Natural Gas (NYM $/mmbtu) Continuous||(8.9)||11.2||51.8||1.9||9.5||2.8|
|Gold NYMEX Near Term ($/ozt)||0.1||(6.3)||7.7||10.1||7.5||1,774.4|
|Copper Cash Official LME ($/mt)||11.2||24.2||69.8||10.8||15.6||9,614.5|
|Currencies||1 Week Ago||YTD||1-Year Ago||3-Years Ago||5-Years Ago||Current Level|
|U.S. Dollar per Euro||1.21||1.22||1.09||1.23||1.10||1.22|
|Japanese Yen per U.S. Dollar||105.79||103.25||110.14||106.62||112.69||106.27|
|U.S. Dollar per British Pounds||1.39||1.37||1.30||1.40||1.39||1.41|
Chart of the Week: When do higher interest rates pose a risk to stocks?
- There are several ways to answer this question, and we address some additional considerations in the Commentary section below.
- This chart gives context to periods of rising interest rates since the Financial Crisis.
- Since 2007 there have been ten periods of sustained increases in interest rates as proxied by the 10-year U.S. Treasury yield.
- In only two of those periods have stock valuations come under pressure.
- The common variable in both of those periods was that interest rates AND credit spreads were rising. Rates rising while credit spreads tightened did not negatively impact stocks.
- We believe that accelerating economic growth and better corporate earnings will prevent any material rise in credit spreads in 2021. Therefore, according to this analysis, rising rates should not pose an immediate risk to equity markets.
Commentary: Inflation: still a high hurdle for bond investors
Although the 10-year U.S. Treasury yield is now higher than it was a year ago (left chart), on an inflation-adjusted basis, interest rates are still meaningfully lower than this time last year (right chart). In fact, the inflation-adjusted yield an investor receives for owning a 10-year Treasury bond remains negative at -0.60%.
Markets were spooked last week as longer maturity rates moved rapidly higher. There are several reasons why higher rates might pose a risk to stocks, but the simplest explanation is that bonds are the primary competition for investor dollars. As rates rise, the relative attractiveness of stocks compared to bonds is somewhat diminished.
We question whether this increase in interest rates will spell sustained trouble for stocks. First, in our view, interest rates are playing catch-up with improving economic conditions. We have already seen stocks anticipate improving fundamental conditions, and rates are now following. Further, the after-inflation (also known as real) return on 10-year U.S. Treasury bonds remains negative. We think the negative real yield on many fixed-income securities has been a big part of perpetuating demand for stocks, even at elevated valuations. Until real yields begin to meaningfully rise, investor demand for equities will likely remain strong.