US Inflation and Treasury Inflation Protected Securities (TIPS)

An interesting little bit of research that we looked at this morning.

US "breakeven" rates of inflation are used to gauge investor expectation of inflation and are calculated as the yield on a conventional US Treasury less the Yield on an Inflation Protected Treasury (TIPS) of the same maturity. 

Currently 5 year inflation expectations are: - 

• Yield on 5 Year Treasury = 1.76% 
• Yield on 5 Year TIPS = 0.054% 
• Breakeven/Inflation Expectations = 1.76-0.054 = 1.706% 

This is telling us that the current 5 year implied rate of inflation is expected to be 1.706% in the US; if we then look at history we can see that over the long run inflation has tended to be a bit higher. 

So if we were to see a reversion to mean of US CPI (inflation) which is higher than the expected inflation of 1.706% then this may be positive for TIPS. Of course in the World of QE and financial repression these indicators could give conflicting signals for some time - never the less it will be interesting to see.  

Please note this is just a review of market conditions and is not a recommendation!! 

Strong US Dollar No Fun for Emerging Markets

Look at the graph below - the strength in the US Dollar has historically resulted in negative returns for the Emerging Market and BRIC indices

Removing the BRIC index and looking at just Emerging Markets we can see the correlation has existed for 20+ years. 

Remember the Emerging Market Index is upside down! 

S&P500 - Durable Goods - Inflation Expectations

Will the S&P500 Index (blue) follow the US Durable Goods Orders (red) and Inflation Expectations (green) downwards - the last 20 years shows a pretty close correlation between the three! 

Key Events in September & October for the FTSE-100

As readers of our regular weekly updates will know we are keen on history, and stock market history can provide some interesting insights. Sometimes the significance of an event does not register with us until after when with hindsight is remembered as a major inflexion point or change that precipitated market declines. 

Whilst equity markets in 2001 were already in a down trend as the "tech bubble" burst the accounting scandal that broke in October regarding Enron is remembered by many and associated with the declines that led to the market low of 2002. 

In 2008 the Financial Crisis was at its peak with the report that Lehmman Brothers had collapsed and there followed a savage decline in the FTSE-100. 

Now we are not suggesting any form wrong doing but the recent Tesco Accounting Errors could ultimately be remembered in the same way, after all market conditions are similar: - 

• Strong 4-5 year growth in the FTSE 100 as it reaches towards 7000

• Equity euphoria built on an underlying bubble - 2000 Tech Bubble, 2007 Housing Market & Mortgage Backed Securities and 2014 Quantitative Easing

• General perception that equity markets can only go upwards - euphoria 

• Just for good measure each event happened in early Autumn (Sep & Oct) 

Here is a graph below to show you the similarities 

As we always say never rely on one indicator alone but events such as these means investors should at least be on their guard. 

Citywire Interview

Back in April Citywire asked us to take part in an Interview about risk targeted portfolios - hope you find it of interest! 

Andrew Citywire Interview

When low volatility can mean high risk!

One of our favourite indicators that we monitor when looking at equity market indices is the volatility of the index - there is frequently low volatility at points when investors become complacent and risk is high, as perceptions and attitudes change the bullish become the bearish with markets falling and volatility rising. Look at the graph of the FTSE-100 below in blue and the VFTSE (FTSE volatility) in red. 

As you can see we are now at ultra low volatility and the FTSE 100 recovering to its previous peaks - will the rally run out of steam or will Central Banks Quantitative Easing keep volatility at bay?

Just to show how closely these two are correlated look what happens when we turn the volatility graph upside down, the last 10 years in particular have been pretty close.

Whilst it is a bit of a chicken or the egg - does declining equity markets cause the volatility or rising volatility cause the declining equity markets - its useful to consider the markets overall position and compare with other indicators to build a framework for investment decisions. 

New Blog

I have started this blog today (18th September 2014) and we hope to add lots of useful information and narrative on the Financial Services industry that we work in - hope you will enjoy it! 

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