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Which Way Will the Wind Blow?

February 19, 2013

Although we are not expert at predicting the weather, we do attempt to determine the outlook for the financial markets. This is an especially difficult task today because of two countervailing winds.
-Wasif Latif, VP of equity investments, USAA Investments



Although we are not expert at predicting the weather, we do attempt to determine the outlook for the financial markets. This is an especially difficult task today because of two countervailing winds.

The tailwind for risk assets is the unprecedented quantitative easing, or money printing, by the world's major central banks. They are flooding the world with liquidity in a so-far successful attempt to inflate the prices of financial assets, primarily stocks and bonds. This tailwind propels the price of riskier assets up as investors move out of short-term investments such as money market funds that offer near-zero yields.

The headwind is economic conditions in the developed world (United States, Europe and Japan), which involves reducing debt and ratcheting up austerity (through increased taxes and cuts in government spending). This headwind reduces consumer spending and corporate profits, leading to a depressed outlook for growth.

In the last several weeks, the tailwind of central bank monetary easing has been the stronger of the two winds, sending the price of risk assets such as stocks marching higher. The S&P 500 index inched up to a new five-year high this week, closing at 1,520, up 0.2% on the week. U.S. Treasury bonds sold off, with the yield on the 10-year rising 0.05 percentage points to close at 2.00%, the highest level since April. Spot gold plunged 3.42% on the week to close at $1,610 an ounce, the lowest level since August.

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