Poor global data pushes bond prices up

Genevieve Signoret

Fixed Income

  • Although the U.S. and Mexican economies are strengthening, elsewhere the data have been poor. Also, the dollar has been strengthening, posing a risk to demand for U.S. (and, thus, Mexican) exports. Hence, markets are wondering whether the Fed might wait longer than earlier expected to hike rates. This is pushing down yields on long-term Treasury securities (boosting their valuations).
  • Expectations that the European Central Bank will be forced to dramatically increase stimulus has sent Germany bond prices veritably soaring.
  • To a far lesser degree, something parallel is occurring in Japan.
  • Most of our client portfolios hold long-term euro area and Japanese investment grade bonds. So they’re benefitting from these improved bond prices. The problem is, euro and yen weakening against the dollar in dollar terms have been offsetting these gains in our (dollar-denominated) client portfolios, rendering non-U.S. bond developed market bond holdings net losers. Nonetheless, we’re holding to these positions. Just in the past few days the yen has spiked on risk aversion. Although we think that the current bout of risk aversion is transitory and thus see the yen spike as transitory too, we expect the improvement in risk appetites to be positive for the euro.
  • Poor global data and a strong dollar are also causing bond-market–implied inflation expectations to slide. We don’t think the Fed will tolerate a 5-year nominal bond spread over TIPS below 150bp. Last Wednesday it closed at 154. The FOMC meets next on October 28-29.
  • Like equity, U.S. junk bonds are correcting. We think this is transitory.

Markets are no longer so sure the Fed will raise rates next June. Their doubts are boosting long-term investment grade U.S. bond valuations

Like equity, U.S. junk bonds are correcting. We think this is transitory

Bond-market–implied inflation expectations have slid to 154bp. Anything below 150 is intolerable to the Fed, in our view. The FOMC meets next on October 28–29.

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