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Vanguard believes rates rises may be on the cards


Speaking in a webinar, Vanguard’s Ken Volpert, head of investments for Europe, and Peter Westaway, chief economist and head of investment strategy group for Europe, discussed the critical factors driving core government bond markets last week.

The firm expects the Federal Reserve to be slower in raising rates, and for rates to peak at a lower level, than the Fed’s ‘dot plot’ might suggest. In both March and June the Fed moved its interest rate expectations lower, toward an outlook closer to Vanguard’s.
Volpert pointed to a number of issues likely to keep rates low over a relatively long period: “The demographics are changing. People are getting older, lowering the structural participation rate. There is also a tendency to increased inequality, with income growth weak among middle and lower income groups, the groups most likely to spend any extra money and thereby increase demand” he said.
Westaway commented: “We feel the time is about right for both the Fed and the Bank of England to start to raise rates, the Fed later this year and the Bank in the first half of next year. But we should be aware that there is a bifurcation between the likely course of the US and UK on one side and the euro area and Japan on the other. Although bund yields spiked following the announcement of QE, the Japanese experience suggests they will grind back down over the coming year or so.”
Westaway added: “There is a significant amount of cash sitting on company balance sheets. They are reluctant to invest this while growth is low, but growth is likely to remain low while consumers and governments remain heavily indebted. In a similar way, central banks are struggling to stimulate demand for credit, but it was the over-reach in credit markets which led to current stagnation.”
The pair felt that there was a lack of synchronisation among the leading economies which could present challenges for central bankers, but equally offer an opportunity for investors as it provides natural diversification in a global portfolio.
Volpert concluded: “We believe that investors holding bonds as a part of well-balanced, diversified portfolio should not be unduly concerned about rising interest rates and should not make investment decisions based only on market conditions.  Vanguard maintains that bonds are an important component of a balanced portfolio and should be held to offset equity market risk.  Through periods of market uncertainty, investors should try to maintain perspective and discipline with a commitment to their long term investment programme.”

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