View from the Observation Deck

1. The securities markets have been tested in recent years by a U.S.-led global credit crisis, sovereign debt crisis in the European Union, natural disasters, and a plethora of geopolitical events, including war.
2. This "perfect storm" of negativity has definitely influenced investor sentiment with respect to risk. Many investors have sought shelter in low-yielding, high-quality savings vehicles and securities, like Treasuries.
3. The chart above shows where yields finished at the end of 2011 relative to where they started the year. Perhaps the most glaring move in 2011 was the rise in inflation (CPI Headline rate).
4. The CPI measurement includes food and energy prices. Despite the fact that the housing market is still fighting deflation, the huge amount of stimulus from the Fed helped push inflation up from an annualized rate of 1.5% to 3.4% in 2011 (thru Nov.).
5. Inflation in the U.S. has averaged about 3.0% per year over the long run, so inflation has already climbed above the average, and managed to do so in a tepid economy. What would it be if growth were to accelerate moving forward?
6. Nearly all of the yields in the chart to the left of the CPI Headline rate finished 2011 below where they began, except for the dividend yield on the S&P 500. These investment vehicles are considered investment-grade quality.
7. A lot of investment capital is positioned in so-called safe havens because investors fear losses more than missing out on potential gains. It does expose them, however, to a potential double whammy; of stronger growth and higher inflation.
8. In 2011, the phrase "Risk on, Risk off" became part of the daily lexicon. When good news was announced, investors seemed to embrace risk and vice-versa.
9. Should the risk-reward dynamic shift in favor of riskier assets at some point in 2012, especially if economic growth accelerates, income-oriented investors may want to reallocate some of their capital to higher-yielding opportunities.