Coronavirus was surpassed for the first time since the early days of the pandemic more than a year ago as the biggest risk investors pose at night, according to a new survey among fund managers.
Bank executives interviewed by Bank of America see inflation and a rioting rise in borrowing costs as those seen during the ‘taper tantrum’ in 2013 as the main ‘tail risk’ that could worry world markets.
The $ 597 billion survey of investors under management underscores investors’ concerns that the economic recovery of Covid-19, backed by unprecedented stimulus, could cause an increase in price growth that could be difficult to tame.
Rising inflation expectations and bets that central banks, particularly the US Federal Reserve, may have to tighten policy sooner than planned have led to widespread sell-offs in government bond markets, which may worry investors.
“This is a catch for the Fed,” said Jim Caron, portfolio manager at Morgan Stanley Investment Management. “They want to say they are going to be patient, but the more patient they are, the more people will worry about inflation.”
Investors in the BofA poll expect inflation to rise at least in the short term, with a peak of just 93 per cent of managers in the survey, which expects faster price increases in the coming year. A majority now sees that higher economic growth is accompanied by higher inflation. Previously, investors were more optimistic about a ‘goldilocks scenario’ of lower inflation coupled with strong growth.
“We believe 2020 was likely to be a secular low for inflation and interest rates,” BofA investment strategist Michael Hartnett said last week.
The expectations of rising inflation have brought shockwaves through the bond market this year as inflation eats away at interest payments on bonds. US ten-year treasury yields, one of the world’s most watched interest rates, rose 1.6 percent, from 0.9 percent at the beginning of the year as investors sold the debt. Meanwhile, the ten – year break – even rate, a key measure of inflation expectations, is now at its highest level since 2014.
Traders are worried about a repeat of the tumultuous tantrum of 2013 when the prospect of the Fed withdrawing the stimulus after the global financial crisis led to a serious sell-off of bonds.
‘Previous deliveries have shown that what begins as a benign correction can develop into a tantrum with greater consequences. Our modeling of a severe market scenario has a significant impact on growth, ”said Innes McFee, Oxford Economics’ chief economist.
A large portion of the fund managers in the BofA survey said a 2 percent return on ten-year treasury would cause a correction of at least 10 percent in the stock markets.
Investors have seen the biggest cut in 15 years in their exposure to technology stocks, which suffered during the bond market. Betting on technology is still considered by bitcoin and ESG to be the “most pressing trade”.
The reading of investor fears comes on the first day of the Fed’s two-day monetary policy meeting. Central bankers have lowered the risk of inflation and reinforced that they do not intend to raise rates until the economic recovery of Covid-19 is well underway.
“The Fed’s challenge is to manage the transition from a low to a high interest rate regime without causing chaos in the market,” ING analysts said ahead of the Federal Open Market Committee’s decision on Wednesday.