Sell-off brings back memories of taper tantrum

Friday’s rout echo memories of the 2013 market sell-off, commonly referred to as the taper tantrum. Back then, the US 10-year Treasury yields had jumped from 1.60 per cent to nearly 3 per cent after the US Federal Reserve announced that it would taper its quantitative easing (QE) — a bond buying and interest rate easing programme to help the US economy emerge from the 2008 financial crisis. This led to turbulence in the emerging market (EM) pack, which had seen a gush of liquidity thanks to the QE programme.

The sharp selloff in the domestic markets started in July 2013 as the Sensex dropped 12 per cent in just 20 trading sessions. In 2012, India had seen foreign portfolio investor (FPI) flows of ~1.3 trillion ($24.5 billion) and in 2013 about ~1.1 trillion ($20 billion). The taper tantrum announced had stoked fears of reversal of these flows.

Fast forward to 2020: India saw FPI inflows of ~1.7 trillion ($23 billion), propelling the benchmark Sensex by over 85 per cent from its Covidinduced lows in March 2020.

The 10-year US yields have surged from 1.08 per cent at the start of the month to 1.61 per cent, as of Thursday.

However, one notable difference between 2013 and 2021 is that back then the policymakers had formally announced the curtailment of the bond-buying programme. This time around central banks have vowed to keep interest rates low for at least another year as they believe the road to recovery will be long, but the market is pushing up the real rates as it already sees inflation risk on the horizon.

So will rising yields continue to create havoc for the equity markets? “Over the past five years, equity returns have exhibited a negative beta to changes in real yields and this relationship strengthened further in 2020. By contrast, changes in nominal yields have been a 'symptom' of reflation or recession; equity returns show a weakening, but still significant positive beta to these. A rise in real yields will be more problematic for equities” says Bhanu Baweja, strategist, UBS Securities India.

Morgan Stanley strategists Ridham Desai and Sheela Rathi say it will depend on how growth pans out. “What matters to equities is the gap between estimated real growth and long yields. If this gap is rising, as we currently assess, share prices generally do well... The risks to equities are that bonds offer better value than equities at current levels and/or inflation surges.”