“The vaccine’s the thing”, writes BofA’s Michael Hartnett, describing what respondents to the bank’s monthly Global Fund Manager survey believe is necessary when it comes to catalyzing higher bond yields.
Asked “what will cause yields to rise”, 41% said a “credible vaccine” is required for higher rates. Notably, that’s more than the 37% who said inflation.
Just 11% said higher debt levels, while oil barely registered despite the near lockstep rise between crude and breakevens in the months following the pandemic plunge.
For equities, this suggests that any nascent rotation out of secular growth and mega-cap tech (and into cyclical value) hinges on a safe and effective vaccine.
After all, the long-running outperformance of growth over value (with the latter now “dead” by some accounts) is tethered to the vaunted “duration infatuation” in rates, which is itself a product of the “slow-flation” macro environment. The pandemic served to exacerbate these (already deeply entrenched) trends, so it makes sense that a vaccine is viewed as the most likely candidate when it comes to ushering in a sustained period of higher rates and an attendant reflationary macro backdrop.
Just 11% of respondents said they expect 10-year yields to break out of their 50-100bps range by the end of this year. With that in mind, it’s worth noting that while there are many ways in which history is “rhyming” with the financial crisis, 10-year nominals aren’t one of them.
JPMorgan made a similar observation this month. “DM Bond yields have risen the least-ever once a recession has ended”, the bank’s John Normand said.
The figure (below) puts things in the context of all historical recessions, as well as post-1990 downturns. The COVID recession sticks out even in the context of the latter — no small feat.
The problem with the above is simple. As detailed extensively on Tuesday morning in “Unprecedented Governmental Dysfunction Sows Doubt On Vaccine, Election“, it isn’t clear that Americans will embrace a vaccine once it becomes available. A shot could be shunned both by Donald Trump’s supporters and his detractors. The former are deeply suspicious of the pandemic itself, while the latter don’t trust a vaccine development effort overseen by the current administration.
“There will remain many unanswered questions for a number of years, including: Will the uptake be as high as the 60-80% suggested by some surveys, or has the credibility of any first mover been diminished by allegations of a politicized approvals process in some countries”, JPMorgan’s Normand went on to write, in the same note cited above.
Hopefully, that rather unfortunate situation can be rectified, because the future of the US economy (and thereby the path of long-end yields and the fate of any pro-cyclical rotation in the equities space) may just depend on it.
“The rotation attempt in May faltered due to continued concerns on growth in COVID-19 cases, in particular in the US, but risk appetite is now better supported by a strong macro backdrop with low and anchored real yields and positive macro momentum”, Goldman said last week, in the course of making the case that “with the global manufacturing PMI at 53.6, we have entered the ‘acceleration’ phase”. The bank harbors an above-consensus view on the economy predicated on expectations for a mass-distributed vaccine.
Notably, any rise in yields that isn’t the result of a vaccine may not go over well with stocks. “Equities and risky assets should be able to digest gradual increases in bond yields, both nominal and real, as long as they come alongside better growth”, Goldman says. There’s that key qualifier again: “As long as”.
Writing on Tuesday morning, BMO’s US rates team noted that “progress toward a vaccine is essential to an attempt to price in 2021 optimism during Q4”.
They went on to point out that considering “the timing of commencing inoculation was always a mid-2021 event at the earliest… there exists enough parallel paths toward a cure that the economic outlook can withstand several failures”.
That’s probably true. But what I wonder is how markets will react in the event that mistrust of the vaccine on the part of both Democrats and Trump’s base (albeit for totally different reasons) ends up delaying the inoculation push.