Bond Markets : Normalization of interest rates

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05/30/2013 | 05:50 pm
European and U.S. rates are back to their highest over a year. This rise since January, which has accelerated in May, is linked to various global factors.
The current rate increase reflects primarily investor uncertainty about monetary policy of the U.S. Federal Reserve. They believe the judgment of the Quantitative Easing (which helped to maintain low rates), more likely since early May, would lead to a rise in interest rates (operators are already anticipating, as shown by the increase of the 10-year U.S. bond  from 1.62 to 2.10 since the beginning of May). Until now, these interventionist policies resulted in artificially low rates… were they justified?

The Bloomberg chart below illustrates the evolution of the U.S., French and German 10-year bond rate since January 2013. It highlights the acceleration of May, correlated with the equities market increase.

  • Orange : 10-year OAT (France)
  • White : 10-year T-Notes (USA)
  • Yellow : 10-year Bund (Germany)

In addition, we note the global bond markets are less attractive for investors. Indeed, market operators are gradually moving away from bond markets to return to equities which offer higher returns. Equity markets evolve near historical highs, with a 25% increase in the United States and 65% in Japan since the beginning of the year. These arbitrages cause a surge in "Equities" (over-bought since early May) and a rise in interest rates (due to lower demand).
European economic and political decisions disappoint. Different investors anticipate a downgrade of sovereign debt, due to the confusion of european countries to respond to the recession and rising unemployment. Indeed, on Tuesday the 28th of May, Standard & Poor's has threatened, the grade of the French debt if authorities does not quickly take measures to reduce deficits. This might lead to a further downgrade in Europe

The current trend of rising interest rates should continue in order to achieve a normalization of levels.

Etienne Veber
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