Economic Outlook 2012

Interest Rates

Investors who held bonds in their portfolios prospered in 2011, especially those who held the highest quality and longer term bonds. The debt ceiling issue initially caused a panic. However, the panic created opportunities and in its aftermath, long term U.S. treasury bonds rallied over 20%!

The Federal Reserve pulled out all the stops while trying to keep rates low. They have gone through two rounds of Quantitative Easing to keep short term interest rates low. They are now trying to depress long term rates with their newest program, 'Operation Twist'. This allows the Fed to purchase $400 Billion of long term U.S. treasury bonds.

Long term U.S.treasury bonds were among the best investments over much of 2011. It would be unusual for them to do as well in 2012. Our research shows that high returnsfor bonds are typically followed with subpar returns. As long as problems in Europe persist, higher quality issues will remain attractive. The same will be true in periods of weakness here in the United States. However, opportunities are rising for TIPS, municipal bonds and corporate bonds. We will consider gradually shifting to these, especially when we believe the economy is about to rebound. Active management of sectors and maturities will be needed in a volatile market.

Positives		Negatives
	The Federal Reserve insists on low interest rates		Strong returns of 2011 hard to replicate
	Gridlock in Washington slows spending growth		Inflation erodes real returns
	Bonds usually do well in Presidential election years		Low yields push investors into riskier assets
	U.S. treasuries are a safe haven		Our long term bond indicators are less favorable
	Weak U.S. economy		Great bond bull market coming to a close

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