Buy the Threes, Sell the Fours

by: , CIO, New York Life Investment Management

Despite an economy late in its cycle, the U.S. has considerable momentum, and the rate of expansion is likely to accelerate as we move through 2018. We expect to see 3% GDP growth, 3% wage inflation, and 10-year Treasury yields above 3% – a great combination for both Main Street and equity investors on Wall Street.

What’s Driving Our Outlook for Stronger Economic Growth?

The broad-based stimulus in the pipeline:

Stimulus Description
A weaker dollar The USD is down both YTD and YoY vs. our trade partners.
Easier lending standards Bank lending standards continue to loosen.
Still accommodative credit markets Corporate bond spreads remain low, relative to historical averages.
Late cycle fiscal stimulus Tax cuts, budget expansion, and potential infrastructure spending offer significant stimulus to the economy.

Added to that, business capital investment has ramped up materially in recent quarters. Today, CEOs – from major corporations to small business owners – are confident, profits are rising, and tax reform increased the U.S. competitive landscape.

Wage Inflation and Interest Rates Closely Follow

With unemployment at 4.1% – the lowest level in 17 years – we expect wages to pick up pace, as prospective employers bid for talent. Compensation growth has been subdued, post-financial crisis of ’08-’09, but tight labor market conditions suggest pay will rise at a more normal rate – slightly above 3% later this year.

Employment and Wages

Sources: Thomson Reuters Data Stream, New York Life Investments, as of 3/13/18. NAIRU is an acronym for non-accelerating inflation rate of unemployment, and refers to a level of unemployment below which inflation rises.

As wage growth normalizes, so too, will bond yields. With the threat of disinflation having receded, the Fed reverting to more conventional monetary policy, and foreign buyers retreating from U.S. debt markets, we anticipate that the 10-year Treasury bond will also surpass 3% this year.

U.S. 10-Year Treasury Yield

Sources: Thomson Reuters Data Stream, New York Life Investments, as of 3/13/18. Past performance is no guarantee of future results, which will vary. Treasury Securities are backed by the full faith and credit of the United States government as to payment of principal and interest if held to maturity.

Buy the Threes

As of today, both the yield on the 10-year Treasury bond and average hourly earnings hover between 2.5% and 3%. These levels are conducive to growth if businesses invest in productivity and maintain their profit margins. Solid growth, combined with moderate inflation and normal borrowing costs, spell a favorable backdrop for equity markets.

But, Sell the Fours

However, too much of a good thing can be problematic. Should the economy continue to gather steam, growing at an unsustainable rate approaching 4%, the Fed may become more aggressive in combating inflationary pressures. Similarly, wage gains above 4% are likely to precipitate market stress, as corporate profit margins become compressed and the Fed moves to stay ahead of inflation.

Bottom Line

We feel confident the current expansion will continue for some number of quarters, without runaway inflation expectations or soaring bond yields spoiling the party prematurely. Equities can continue perform. That said, we remain vigilant for signs that excessive fiscal stimulus and/or the exorbitant use of leverage are causing the economy to overheat. Above 4% GDP growth, greater than 4% wage growth, or more than four hikes to the Fed Funds rate in 2018 are all warning flags that should not be ignored.

Opinions expressed are current opinions as of the date appearing in this material only. The information and opinions contained herein are for general information use only. MainStay Investments does not guarantee their accuracy or completeness, nor does MainStay Investments assume any liability for any loss that may result from the reliance by any person upon any such information or opinions. Such information and opinions are subject to change without notice, and are not intended as an offer or solicitation with respect to the purchase or sales of any security or as personalized investment advice. There can be no guarantee that any projection, forecast, or opinion in these materials will be realized. Past performance is no guarantee of future results.

About Risk

All investments are subject to market risk, including possible loss of principal. There is no assurance that the investment objectives mentioned will be met. Diversification cannot assure a profit or protect against loss in a declining market.

High-yield securities carry higher risks and some of the Fund’s investments have speculative characteristics and present a greater risk of loss than higher-quality debt securities. These securities can also be subject to greater price volatility.

A bond’s prices are inversely affected by interest rates. The price will go up when interest rates fall and go down as interest rates rise. Bonds are subject to credit risk and interest rate risk.

MainStay Investments® is a registered service mark and name under which New York Life Investment Management LLC does business. MainStay Investments, an indirect subsidiary of New York Life Insurance Company, New York, NY 10010, provides investment advisory products and services. IndexIQ® is an indirect wholly owned subsidiary of New York Life Investment Management Holdings LLC. ALPS Distributors, Inc. (ALPS) is the principal underwriter of the ETFs. NYLIFE Distributors LLC is a distributor of the ETFs and the principal underwriter of the IQ Hedge Multi-Strategy Plus Fund. NYLIFE Distributors LLC is located at 30 Hudson Street, Jersey City, NJ 07302. ALPS Distributors, Inc. is not affiliated with NYLIFE Distributors LLC. NYLIFE Distributors LLC is a Member FINRA/SIPC.


Jae Yoon

CIO, New York Life Investment Management

Jae Yoon is the Chief Investment Officer (CIO) of New York Life Investment Management (NYLIM). He is responsible for the ongoing evaluation of the investment performance of the strategies managed by NYLIM’s boutiques and affiliate portfolio teams.

Full Bio

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