Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
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The ”no policy uncertainty” and back to TINA trades
6 minutes to read
Peter Garnry
Chief Investment Strategist
Summary: Post the US election technology and health care stocks have been rallying as a Biden victory and senate majority by the Republicans removes the policy uncertainty on corporate tax rate and health care reforms including revising drug prices. We are also observing a collapse in the spot VIX Index and a general downward shift of the entire VIX futures curve indicating that investors are removing tail-risk hedges post the US election changing the narrative back to 'there is no alternative' bidding up equities across the board. The lack of 'Blue Wave' has also punctuated the reflation trade for now sending bond yields lower. Overall, the optimal mix of reactions for the equity market and especially growth stocks.
Global equities are galloping higher post the US election with US technology stocks leading the gains with Nasdaq 100 futures up almost 3% in today’s session extending on yesterday’s momentum. It looks increasingly clear that Biden will win the US election and with high enough margin that a real ugly contested post-election period is out of the question. The senate will most likely not swing into Democratic majority as a result we have very much status quo in terms of the pre-election risk of ‘Blue Wave’ which could have led to corporate tax rate hikes (especially the GILTI tax rate on income from intangibles) and a health care reform. This scenario is getting priced out and as a result health care and technology stocks are gaining relative to other segments. For the energy sector the election outcome is neutral for both the oil & gas and green energy industries. With a Biden victory it seems emerging markets are pricing in a slightly different foreign policy which could lift valuations of Chinese equities
Another important development after the US election has been the collapse in the VIX Index which has gone from 37 the day before the election to 26 as of today. The entire VIX futures forward curve has moved down in what is most likely tail-risk hedges being removed in the market and that the greatest uncertainty around the election has been removed. Due to the enormous one-way trades in weekly and monthly single stock options by retail investors we do not think that we will go back to the pre-commission free days where the VIX curve was in steep contango with the VIX spot anchored at a very low level. It will be a different volatility market going forward.
With a republican senate control we will most likely not get the big bazooka on fiscal impulse and as such the reflation trade is losing a bit momentum. As a result, government bond yields will stay subdued for some time and that is clearly resuming the TINA (‘there’s no alternative’) trade with the long duration assets (growth stocks, real estate etc.) being bid up in price. The Nasdaq 100 Index still represent the fastest growing companies with strong free cash flow generation and our calculations show that the free cash flow yield on Nasdaq 100 is still around 2% above the global corporate bond index yield-to-worst indicating an aggressive premium on growth stocks but not something to fear. The growth stocks segment also provides compounding on revenue in the case inflation comes after all, so our view is still that investors should have an overweight position in growth stocks.
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