Why are US 10-year yields nearing all-time lows…and what does it mean?
City Index February 12, 2016 1:30 AM
<p>Nothing like a crazy day in the markets to get the old blood flowing again. In our research here, we typically focus on specific opportunities […]</p>
Nothing like a crazy day in the markets to get the old blood flowing again. In our research here, we typically focus on specific opportunities in the FX, commodity, and equity markets, but we would be remiss if we didn’t mention the massive move taking place in one of the world’s most important (and some would say “smartest”) market: bonds.
Despite all the talk in the media about preparing for a “rising interest rate enviroment,” medium- and longer-term bond yields are actually at or approaching their lowest levels ever. Earlier this week, the 10-year JGB (Japanese government bond) went negative for the first time on record, and yields in Germany, another global safe haven, aren’t far behind at 0.19% as of writing.
Perhaps in that context, the current 10-year US Treasury bond yield of 1.64% looks reasonable, but that figure is also within striking distance of the all-time low of 1.53% set in July 2012. Indeed, that yield is down nearly 20bps already this week, so just one more day of global market panic could conceivably take the benchmark yield to all-time lows in the US as well.
So what does that mean for traders?
At the most basic level, a portion of the decline can be chalked up to a decline in the “risk-neutral” yield component, which reflects expectations for the federal funds rate over the next decade. In other words, the decline in US bond yields confirms that traders think the Federal Reserve will be less likely to raise interest rates aggressively, mainly due to fading inflation expectations.
However, there is another component of the 10-year yield that has nothing to do with the Federal Reserve. The so-called “term premium,” or the extra return that lenders demand to hold a longer-term bond instead of investing in a series of short-term securities. Locking up your money for a longer period of time is more inconvenient, so traders demand a higher return for doing so the vast majority of the time. In this case, the term premium also appears to be falling dramatically, presumably due to safe-haven demand.
Therefore, as long as global markets remain volatile, US treasury yields will likely remain subdued; conversely, US treasury yields may start to rise if the current bout of global liquidty subsides, even without traders anticipating a particularly rate hike schedule from the Federal Reserve.
Source: Yahoo! Finance, City Index
GAIN Capital UK Limited (trading as “City Index”) is an execution-only service provider. This material, whether or not it states any opinions, is for general information purposes only and it does not take into account your personal circumstances or objectives. This material has been prepared using the thoughts and opinions of the author and these may change. However, City Index does not plan to provide further updates to any material once published and it is not under any obligation to keep this material up to date. This material is short term in nature and may only relate to facts and circumstances existing at a specific time or day. Nothing in this material is (or should be considered to be) financial, investment, legal, tax or other advice and no reliance should be placed on it.
No opinion given in this material constitutes a recommendation by City Index or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person. The material has not been prepared in accordance with legal requirements designed to promote the independence of investment research. Although City Index is not specifically prevented from dealing before providing this material, City Index does not seek to take advantage of the material prior to its dissemination. This material is not intended for distribution to, or use by, any person in any country or jurisdiction where such distribution or use would be contrary to local law or regulation.