“Reflation Trade” Is Back, But Is It Justified? 

Remember when Treasury yields spiked after the November election on expectations of a functional government implementing major fiscal policy?  The 10-year T went from 1.77% on election night to 2.60% in December as infrastructure and tax reform were “scheduled” for the “first 100 days”.   Those days came and went with gridlock and unsuccessful attempts to pass healthcare legislation and Treasury yields dropped.  Today’s announcement of some (but not all) of the details for tax reform spurred a bond selloff, the 10-year yield jumped from 2.24% to 2.31%.  Combined with last week’s announcement regarding Fed balance sheet reduction, aka the “Great Unwind”, the market is considering $5 trillion in tax cuts plus over $3 trillion in bond runoff will result in lots of supply.  The other side of the coin is that the devil is in the details and tax reform is by no means a “done deal” as warring factions within congress and an army of lobbyists can water down or kill any plan.  Also, the pace of balance sheet runoff is slow and gradual and could be even slower depending on future economic growth.  This week’s Fed committee member speeches have featured some disagreement on future rate hikes with Yellen seemingly setting a December rate hike “in stone” regardless of inflation.  Other speeches showed some dissent with that approach. Stay tuned. By David R. Pascale, Jr. , Senior Vice President at George Smith Partners