Looking forward, a repeat of the taper tantrum appears unlikely. And the fact that I’m commenting on it is exactly why. Because we’re having this discussion now removes the taper as a likely source for unexpected reasons for financial market uncertainty – at least to the degree we saw back in June.
There’s another important topic that needs to be addressed: What does tapering mean for interest rates? The Fed’s May comments and subsequent reaction not only changed expectations for when QE would end; they also changed expectations for how long the Fed would maintain its zero-interest-rate policy. That speculation exacerbated the breadth of global financial market uncertainty because the exit from zero interest rates holds much greater significance for broader financial markets than does the purchases of Treasury and mortgage bonds.
But Bernanke has taken pains to disabuse the market of the interpretation that rates are set to jump any time soon. Furthermore, by this point, he has likely convinced everyone both that the Fed will continue to maintain a zero-interest-rate policy and that this decision is separate from the decision to taper. Presently, the market now expects the first Fed tightening will occur in March of 2015.
The broader issue affecting the outlook for interest rates remains the performance of the economy, and even more importantly, the Fed’s assessment of that performance. Market expectations stand high for a second-half economic rebound, and the Fed appears to share that view. Meeting or exceeding these expectations likely keeps rates on an upward trajectory. Disappointment, however, means that rates would fall first.
Recent increases in interest rates (taking the 10-year to just over 2.70%) are a reflection of more upbeat economic data that came after the disappointing July payroll report released on August 2. And that better data heightens expectations for continued positive economic momentum in the second half of the year. Our view is more cautious—we think heightened expectations for growth could make interest rates vulnerable to the potential for declines in the shorter term if those expectations turn out to be overly optimistic.
Jeffrey Rosenberg, Managing Director, is BlackRock’s Chief Investment Strategist for Fixed Income.