Financial Times Editorial Comment: Treasuries tumble, markets worry
Financial Times Editorial Comment: Treasuries tumble, markets worry
Copyright The Financial Times Limited 2007
Published: June 16 2007 03:00 | Last updated: June 16 2007 03:00
"Gentlemen prefer bonds," said Andrew Mellon, the great US banker, who never had the chance to see the Marilyn Monroe film and so change his mind. Though bond-buying gentlemen must be having a bad couple of weeks - the price of US Treasuries has fallen sharply and yields have risen - it is those who depend on cheap money, such as consumers with a lot of debt, who have more to worry about.
The surge in yields came in the past couple of weeks but the upward move, from about 4.5 per cent to about 5.25 per cent on the 10-year bond, has been under way since March. Borrowing US dollars for a few years has got more expensive, and the shape of the yield curve has changed as well. At the start of the year borrowing for five or 10 years cost less than borrowing for one. Now the reverse is true.
Though the shift in yields was sudden it was not especially alarming. Bond investors had a great run until June 2003 when the Federal Reserve cut rates to 1 per cent (lower interest rates are good for bonds). A return to 10-year yields above 5 per cent is just a return to normality, as is the reappearance of an upward-sloping yield curve.
What happens next depends on why yields went up. One explanation - that traders have got into a panic about inflation - does not stand up. The US Treasury issues bonds with an interest rate linked to inflation and their value should be unaffected by expected changes in the price level. Yet, in the past few weeks, they have fallen by just as much as normal bonds.
Another possibility is that central banks in East Asia and the Middle East suddenly decided to stop buying Treasuries. Those purchases, made to balance trade surpluses and keep exchange rates down, are probably the main reason why US bond yields have stayed so low for as long as they have.
But China, other Asian exporters and Gulf states are still running vast current account surpluses, still managing their currencies, and so still need to buy a lot of US assets. Their appetite for long-dated bonds may have declined, but that does little to explain the overall upward shift across the yield curve.
The best explanation, therefore, is probably the simplest. Global growth is strong and markets have become more optimistic about the outlook for the US economy. That creates demand for investment capital, and pushes real interest rates - the price of capital - upward.
Interest rates in Britain, Europe and the US are still moderate and may have further to rise, which would mean a bit more pain for bond investors. But those who will really suffer are consumers who have borrowed too much on their credit cards, property investors who bought at high prices, and buy-out funds dependent on cheap money to finance their acquisitions. Private equity prefers bonds, but it likes them to carry a low rate of interest.
Copyright The Financial Times Limited 2007
Published: June 16 2007 03:00 | Last updated: June 16 2007 03:00
"Gentlemen prefer bonds," said Andrew Mellon, the great US banker, who never had the chance to see the Marilyn Monroe film and so change his mind. Though bond-buying gentlemen must be having a bad couple of weeks - the price of US Treasuries has fallen sharply and yields have risen - it is those who depend on cheap money, such as consumers with a lot of debt, who have more to worry about.
The surge in yields came in the past couple of weeks but the upward move, from about 4.5 per cent to about 5.25 per cent on the 10-year bond, has been under way since March. Borrowing US dollars for a few years has got more expensive, and the shape of the yield curve has changed as well. At the start of the year borrowing for five or 10 years cost less than borrowing for one. Now the reverse is true.
Though the shift in yields was sudden it was not especially alarming. Bond investors had a great run until June 2003 when the Federal Reserve cut rates to 1 per cent (lower interest rates are good for bonds). A return to 10-year yields above 5 per cent is just a return to normality, as is the reappearance of an upward-sloping yield curve.
What happens next depends on why yields went up. One explanation - that traders have got into a panic about inflation - does not stand up. The US Treasury issues bonds with an interest rate linked to inflation and their value should be unaffected by expected changes in the price level. Yet, in the past few weeks, they have fallen by just as much as normal bonds.
Another possibility is that central banks in East Asia and the Middle East suddenly decided to stop buying Treasuries. Those purchases, made to balance trade surpluses and keep exchange rates down, are probably the main reason why US bond yields have stayed so low for as long as they have.
But China, other Asian exporters and Gulf states are still running vast current account surpluses, still managing their currencies, and so still need to buy a lot of US assets. Their appetite for long-dated bonds may have declined, but that does little to explain the overall upward shift across the yield curve.
The best explanation, therefore, is probably the simplest. Global growth is strong and markets have become more optimistic about the outlook for the US economy. That creates demand for investment capital, and pushes real interest rates - the price of capital - upward.
Interest rates in Britain, Europe and the US are still moderate and may have further to rise, which would mean a bit more pain for bond investors. But those who will really suffer are consumers who have borrowed too much on their credit cards, property investors who bought at high prices, and buy-out funds dependent on cheap money to finance their acquisitions. Private equity prefers bonds, but it likes them to carry a low rate of interest.
posted by Carlos T Mock at 7:27 AM
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