White Papers | April 11, 2017

For Whom the Bond Tolls: Low Rate Beneficiaries in a Rising Rate Environment

Executive Summary

Sluggish growth and aggressive central bank actions following the Global Financial Crisis pushed interest rates down to unprecedented levels, even negative outside the U.S., for longer than many would have expected. Investors’ resultant demand for yield (and growth) has supported an unusually disparate group of stocks, all of which might experience meaningful and justified deratings as interest rates begin to lift off from historic lows. This poses a particular concern for us as value investors because we must continuously be on guard against stocks whose apparent cheapness is actually a sign that their fundamentals are in imminent danger of deteriorating. Indeed, there are many monsters lurking beneath the bed that the Fed has made. We are especially interested in identifying companies whose business model, or stock price, has benefited from the prolonged period of unconventional monetary policy that may be on the verge of ending. Investors in US companies offering high yields, carrying heavy debt loads, issuing debt to buy back stock, or expecting high growth rates have all prospered on the back of the decline in interest rates. These stocks, while different in many defining characteristics, are all negatively exposed to rising rates. Meanwhile, we believe more unloved groups such as US financials, materials, and higher quality value names are well-positioned to outperform on a relative basis if monetary conditions continue to tighten.

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