Yes, the Federal Reserve has set its timeline to begin to cut its bond-buying program by the year’s end, as long as the economy continues to strengthen. By 2014, the bond stimulus may be over, and we will subsequently see an upward move in bond yields and mortgage rates.
But in spite of all of the doom and gloom, there is some optimism. The end of the bond tapering means that the economy is fine and expanding. Moreover, interest rates will continue to be at record lows until perhaps late 2014 or 2015 depending on improvement of the jobs market, economy, and inflation. Isn’t that good?
Maybe not. The rapid rise in stocks that we have seen will likely come to an end, but I still don’t see a market crash. As long as interest rates continue to hold near their record lows, stocks should be fine. But of course, the easy gains that we have seen are likely a thing of the past.
As long as the economy improves, stocks will likely ratchet higher in spite of the rising yields. But if the yields double from the current level, stocks could take a big hit.
For instance, the yield on a five-year U.S. government bond is 1.29%, up 46 basis points in just a month. The 10-year yield is now at 2.40%. I think it’s going to take much higher yields to convince investors to switch from stocks, specifically the high-yielding dividend stocks, to bonds.
I’m not saying it won’t happen, but I just don’t see it until after 2015, when interest rates will begin to ratchet higher. And like I said, it will take a major jump in bond yields to drive any asset shift.
In fact, the current selling is exactly what the market needs given what was an extremely rapid rise that was clearly not sustainable. This may actually be the correction we’ve been hoping for and expecting. (Read more in “Bull Market Not Over, but a Correction May Be on the Horizon.”)
The S&P 500 is down 4.8% since last Thursday. If the selling continues and the index retrenches to closer to 10%, I would definitely be looking to accumulate shares.
For now, investors should stay on the sidelines and perhaps even take some money off the table, as a bigger discount may soon be on the horizon.