We continue to share a collection of charts with you that we hope you find relevant in understanding the current investment climate.
This year marks an impressive economic recovery from last year’s COVID-19 pandemic and the resulting lockdowns. GDP grew at an annualized rate of over 6% in the first two quarters of 2021. While third quarter looks to slow down, 2021 is so far a year of economic gain.
2021 has also seen a strong uptick in inflation. Current estimates show the Consumer Price Index increasing at over 5% this year.
Yet, the interest rate set by our Federal Reserve is near zero, and the yield on the 10-year U.S. Treasury bond is currently about 1.5%.
Conventional wisdom is a bond’s yield should be somewhat higher than the inflation rate to give investors a positive return. Additionally, conventional wisdom is that our Federal Reserve should keep interest rates low when needed to stimulate a weak economy. This is the essence of the Taylor Rule; which the short term interest rate set by Federal Reserve has tracked closely over the years.
So what is going on? A strong GDP growth rate and an inflation rate above 5% clearly points to a much higher interest rate. My guess is this should be resolved. Either the GDP growth rate and inflation drops, or interest rates rise, or both. One then has to wonder about how this affects stocks and bonds.
As always, know what you own, do not overinvest, and stick with quality.
-Cliff Jarvis
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