What's in the News:
As we prepare for the President to possibly replace Janet Yellen as Federal Reserve Chair in February, the fixed income markets have been reacting as possible front runners for the seat have been announced.
Earlier this month the market was rattled by the news that John Taylor was allegedly the front runner for the position, causing yields to increase. Taylor is the creator of the “Taylor Rule” forecasting model, which discredits the traditional rational expectation model in favor of one that relies on the difference in the calculation of nominal and real interest rates and its relation to inflation. The Taylor Rule suggests that interest rates should be three times higher than current levels.
Then last week, talks of Jerome Powell as the front runner caused yields to decline. A member of the Fed’s monetary policymaking committee, Fed Governor Powell has been recommended by some commenters as the best candidate for continuity and least likely to rock markets.
And no competition is complete without a wild card, such as the White House’s Top Economic Advisor, former Goldman Sachs executive Gary Cohn.
What are we thinking?
It is possible that interest rates could face the hurdle of a new Fed Chair. A more aggressive Fed Chair could be beneficial to income investors who have been starved for yield. But this could also bring more market volatility. By contrast, a more conservative Fed Chairperson would likely continue the pace of slow and measured interest rate increases, therefore not surprising the market.
Regardless of the decision that President Trump makes, we believe that as the economy and employment continue to trend higher, rates have to eventually normalize. As we prepare for the unknown, one certainty is that diversifying in anticipation of these changes is critical – and as active managers we can help income investors maximize yields in any environment.
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