View profile

The InterPrime Newsletter - Issue #14 - The Fed Taper & a Fall market update

The InterPrime Newsletter
The InterPrime Newsletter - Issue #14 - The Fed Taper & a Fall market update
By The InterPrime Team • Issue #14 • View online
“The four most dangerous words in investing are: ‘this time it’s different.‘” – By Sir John Templeton
In this edition of the newsletter, we provide our Fall market update as well as shed some light on what the U.S. Federal Reserve has in store for the rest of the year. Hint: It’s called Tapering and means that they will reduce the amount of money they are printing!
Additionally, we wanted to highlight an interview we did with Tobias Francis of Trading.tv. We talk about the only creator platform for finance and investing, how built in trading makes it one of a kind, how Tobias got out of Wall Street, and how community and inclusion are a focus for him.
Founders on Finance Episode 5: Tobias Francis of Trading.tv

What does it mean for the U.S. Fed to taper?
At the start of the covid-19 crisis almost 18 months ago, the U.S. Fed was amongst the first to act. They acted swiftly and decisively to protect the global financial system and markets.  Their primary acts were to drop short term interest rates to 0, and be a ready buyer for all types of securities (US Treasuries, Corporate Bonds, other currencies etc.). They essentially became the entity that was ready to backstop the global economy from a financial crisis.
They were able to do this by the sheer strength of their credibility and their ability to expand and grow their own balance sheet. They were able to buy securities to support the markets and make sure that they were functioning in an orderly manner. You can read about the gory details from one of our earlier newsletter posts here. We also review the history of how the U.S Fed was founded so check it out if you are a history buff!
So the U.S. Fed spent the last 18 months “buying” assets and putting them on their balance sheet, so it grew. And I mean it GREW! 
It doubled from $4.1 TRILLION to over $8.4 TRILLION, and it’s still growing! They are currently buying $120B of assets every month on the open market - $80B of US Treasuries and $40B of US Mortgage Backed Securities.
The balance sheet of the U.S. Federal Reserve (Trillions)
The balance sheet of the U.S. Federal Reserve (Trillions)
So now that the covid-19 crisis seems to be ending (fingers crossed), the U.S. Fed has started mentioning the word “TAPER” in their news conferences and meeting minutes. This means that they will slow down their monthly asset purchases, and eventually end them. This would result in the U.S Fed’s balance sheet growth stopping, and eventually shrinking when securities mature (in a few years).
Financial markets all over the world are waiting with bated breath for the actual “TAPER ANNOUNCEMENT”. The U.S. Fed has been telegraphing that the time is coming sooner rather than later for the last few months. They are being extra careful & over communicating as they try to avoid a replay of the 2013 “Taper Tantrum”. Back then Ben Bernanke’s announcement took the markets by surprise! This caused instability, leading rates to spike higher temporarily, before normalizing. You can read all about it here.
Our estimate is that it happens in the next month or two.
What effect does this have on the real world?
When the world was freaked out due to the covid-19 crisis, the U.S. Fed expanded their balance sheet by buying securities. Now that things are getting back to normal, they are going to reverse course and stop this. The technical effect of this will be lower liquidity in the market, and the stopping of “money printing” by the U.S. Fed.
This is good because it will allow the markets to get back to functioning normally, similar to when painkillers are tapered off and eventually stopped. There may be a rise in the long term interest rates (think mortgages and long term corporate borrowings) in the near term, meaning that investors will be once again “paid” to take risk. Remember, the U.S. Fed did not need to get paid, as they have the ability to “print money”, which us mere mortals lack.
The next step, after the completion of the “Tapering” will be for the U.S. Fed to hopefully raise short term interest rates above 0 where they currently sit. They have said that they will do it very very slowly and only when they believe that the economy is on a very strong footing, as an increase in these rates will affect short term borrowings of businesses which can lead to economic slowdowns.
The upcoming “tapering” and eventual increase in short term rates will come as a welcome relief to savers as they will finally be able to earn some interest on their hard earned money.
In the meantime, the best things we can do are watch the U.S. Fed and the markets very closely, and keep our bond investments to short dated bonds. This way when the rates do rise, we will be able to take advantage at the earliest!
Fall 2021 Market update
Our September newsletter noted the seasonal pattern of higher volatility and market downside in September / early October. Aka the “September Effect”. Like clockwork, it happened and stocks and bonds wiggled and jiggled.
The seasonal pattern is nearing its historic end. So the question becomes - are the markets ready to reverse the recent moves?
Bonds & Rates
Federal Reserve taper talk helped push bond yields higher. If the Federal Reserve stops asset purchases, one of the largest buyers of bonds will be out of the market. This means a reduction in bond demand and yields could continue higher.
Remember - bond prices and yields have an inverse relationship. i.e. When bond prices go lower, yields rise. When bond prices go higher, yields go lower.
The Fed has not given an official announcement of when reductions will start. But the mention has investors a little more hesitant to lock in lower yields.
Tapering bond purchases is step 1 of the markets moving back to “normalcy”. Step 2 would be an official rise in interest rates. That means we expect a floor to how high rates can go until the Federal Reserve actually moves rates above 0%.
Let’s look at yield charts to try to identify where that floor can be.
US 2 Year
The 2 year note looks to be starting a stair step higher in yield. Based on the current setup we could see a move toward 0.35% - 0.38% in the cards.
US 2 year note
US 2 year note
US 10 Year
Currently the path of least resistance seems to be to higher yield. Based on the current setup a move toward 1.74% - 1.95% is possible. A move back below 1.30% would change the tone.
US 10 year note
US 10 year note
US 30 Year
Like the 10 year, path of least resistance seems to be to a higher yield. Based on the current setup a move toward 2.40% - 2.47% is possible. A move back below 1.81% would change the tone.
US 30 year bond
US 30 year bond
Take away: with bond tapering now a potential 2021 reality. Yields have moved higher but are still a long way from historic “normal“ levels. Savers could see better rates. But borrowers still get the bulk of the benefits.
Stocks
The September Effect produced ~ 6% drawdown from recent all time high on the S&P 500. With the negative seasonal window closing there could be a retest of all time high during October.
The 200 day moving average continues to rise indicating the long term bull trend is still in place. Keep your eyes on the 4100 / 4200 area as a potential trigger to resume selling pressure.
S&P 500
S&P 500
We want to note how higher bond yields hurt high yield stocks / dividend payers and helped the stocks of financial companies.
REITS and Utilities saw a ~ 9% drawdown. If bond yields continue to rise they may stay under pressure.
VNQ - Vanguard REIT ETF
VNQ - Vanguard REIT ETF
XLU - Utilities select SPYDER ETF
XLU - Utilities select SPYDER ETF
Financials rallied ~ 9% during the same period. Generally speaking, when yields rise, financials can generate higher revenue.
XLF - Financials Select SPYDER ETF
XLF - Financials Select SPYDER ETF
Take away: expected seasonal downside / volatility happened. Historically October tends to see a reverse higher. If all things remain historic, a retest of all time highs is possible. Stock bulls are still in control for now. Having a slight defensive posture makes sense. Owners of REITS, utilities and financials need to keep watching bond yields.
Bitcoin
Bitcoin moved out of the consolidation phase in September. That gave buyers the upper hand.
Price dips should continue to remain shallow. The most recent dip bounced at the previous $40k / $41k pivot. The potential for Bitcoin to trade back near $59k - $62k by year end is still valid.
BTC/USD
BTC/USD
Take away: near term price trend is higher. Price dips should continue to see buyers. Due to the volatile nature of Bitcoin it is still not recommended for corporate cash.
Wrapping Up
The seasonal September swoon played out in stocks as expected. Fed taper talk and the government infighting about the debt ceiling helped. October tends to see a bullish reversal so a test of all time highs is possible.
Keep your eyes / ears open to see if the Fed actually starts tapering. If they do, yields can continue to rise. That would put pressure on high yield / dividend paying stocks. With financials likely getting further benefit.
Please reach out to us if you have questions, or if you want to talk about markets. 
Did you enjoy this issue?
The InterPrime Team

The InterPrime Newsletter

In order to unsubscribe, click here.
If you were forwarded this newsletter and you like it, you can subscribe here.
Powered by Revue
P.O. Box 643, Menlo Park, CA 94026