Bond yield curve steepening at the long end, what?

Posted: October 17, 2016 in Uncategorized

These two months of relatively negative stock market performance are the result of the above and Yellen and the Bank of Japan are constantly saying that is what is happening.

So better one try to understand this quite complex idea.

First of all some definitions

Bond yield rising means that investors ask to be paid more to hold an asset.

Long end means 30 year Treasury Bond (usually versus the 10 year or shorter)

Steepening means that the more far in time we go the more the yield requested (say the 5 year bond will have yield greater than the 1 year (as it is more risky to hold something with expiry date in 5 years than in 1 year), but the if you take a 30 year vs a 10 US Treasury bond the yield requested is relatively much more than the one between 1 and 5).

The important take out is that the US Treasury 30 year bond practically are kind of the guidance to various benchmark in the US as reset for loan and mortgages. So, to put it simply, all of a sudden everything becomes more expensive.

This will automatically cool the economy and can even cause a recession if the “steepening” comes too fast and postpone any interest rate hike. If instead the “steepening” is mellow enough it can push the Federal Reserve to push up as fast as it can (say December) the rates – so when the fast  “steepening” lead to a recession they have room to move  and cut interest rates.

Moreover, as we start from very low yields, as I said in a previous post, the losses are magnified (EG an increase of yield of 0.2% in the 10 years US Treasury provokes a loss of 2% circa). And this is why the bond proxy sectors (infrastructure, telcos, A-REIT etc) lost a lot  these two months as institutional leave the bond like sector to buy real bonds that are more secure and now have a better yield.

And please do not confuse, as media often do, bond and credit. Bloomberg USD High Yield Credit returned +0.52% on the same period.

What does this all mean? Simply we are in a transition phase quite difficult and inevitably weaker as the “data flow” is particularly exposed to errors and misinterpretations.

The weakness in the stock market is now linked to this uncertainty. If there is an error, you will know it for sure as the drop will be stone-like.


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