To be clear, just because analysts at Goldman Sachs suggest that people should buy equities, it doesn’t mean they should. The world’s largest investment bank has a reputation that suggests investors should take their advice with a grain of salt, but sometimes it’s nice to know what the big bankers have on their minds.
Bond yields have skyrocketed this month. The yield on the benchmark 10-year Treasury bond has climbed above 2 percent for the first time since April of last year, fueling a frenzy of speculation over the cause. Most recently, there has been a lot of discussion surrounding the idea that the U.S. Federal Reserve could begin tapering bond purchases, and the implications of this have been evident in equity markets around the world.
Japan’s Nikkei index came down with a bad case of volatility and has had three declines of more than 3 percent in the past two weeks. The index is now down nearly 2 percent for the month despite (or, partially because of) a revitalized domestic stimulus program that seeks to double the monetary base and the amounts outstanding of Japanese government bonds as well as exchange-traded funds in two years, and more than double the average remaining maturity of JGB purchases.
But Goldman’s focus right now is on U.S. bond prices and European equities, according to a note seen by CNBC. “While there are certainly risks around QE (quantitative easing) being withdrawn, we continue to view rising bond yields as relatively benign for European equities,” Goldman Sachs’ European research team said in a report released on Thursday.
“Indeed, provided it is better growth that is driving yields upwards (which is what we expect) we would argue it is supportive. We find a positive relationship between real yields in the U.S. and European equities,” the team added.
The bank suggests that economic conditions in the U.S. won’t improve enough to prompt the Fed to act until the first quarter of 2014. At that point, the firm expects the Fed to begin tapering purchases, with most economists anticipating a slow wind-down that is sensitive to incoming data.
At the beginning of the year, the Fed adopted an unconventional policy and explicitly set a 2.5 percent inflation threshold and 6.5 percent unemployment target as the minimum criteria for a policy rate move. Combined with an explicit flow rate of QE purchases, the Fed has basically said that it will keep its foot on the gas until incoming data — specifically the unemployment rate — suggests that the economy has improved, and as long as inflation remains in check.
Inflation, measured by the Fed’s preferred metric of personal consumption expenditures, remains low (perhaps too low, if you ask Chairman Ben Bernanke). The next Personal Incomes and Outlays report is due out on Friday.
Don’t Miss: The Housing Recovery Hits Another Speed Bump.