# Long Bond Yield Collapse - What Gives?



## DeepState (17 May 2014)

Yields gapped lower this week from historically low levels:

US 10 yr: 2.52%
UK 10 Yr: 2.56%
Germany: 1.33%
Australia: 3.72%

Gold Steady
Equity markets steady/new highs
VIX 12.44
USD fairly unch vs GBP, JPY and AUD although EUR weakens
Copper rising strongly in May
US inflation figures and PMI fine although Cap Util was a bit weak

What the?


----------



## qldfrog (18 May 2014)

Indeed;
I am REALLY puzzled right now, all the macro economic knowledge I built over the years makes no sense anymore
Are we in one of these new "now it is different" ?
Usually this falls in a heap but this has now been going for a while..
please please explain!!!


----------



## DeepState (19 May 2014)

qldfrog said:


> Indeed;
> I am REALLY puzzled right now, all the macro economic knowledge I built over the years makes no sense anymore
> Are we in one of these new "now it is different" ?
> Usually this falls in a heap but this has now been going for a while..
> please please explain!!!




My guesses are as follows:

It is a combination of factors.  Probably the most salient are - 

- Continued weak inflation figures at final consumer and production manager levels which, together with the weakness of the first line defense of negative interest rates on reserves/deposits held with the ECB implies that QE in EZ is growing ever more likely.  The long bonds of the EZ have compressed by more than the US.  

- In the US, inflation figures are more sound and the economy there is recovering, however FOMC members are constantly pushing out the date of first interest rate rise with each FOMC meeting.

- China had slowed the rate of its reserve purchases as its currency was slowly allowed to appreciate.  More recently, in an effort to shake out the hot money, it engineered the decline of Yuan vs USD.  To do this, it has to greatly increase its purchases of USD currency and foreign assets.  The TIC database shows substantive purchases of US Treasury Securities and the 3 month bill rate in China has declined at a time when restraint is more in order.  This is consistent with increased supply of credit by PBoC to the monetary system there to finance USD purchases.  These USD purchases, when applied to bond markets, compress global bond yields.


China's compression of the exchange rate can be expected to reverse before too long as its accumulation of reserves is excessive by any measure.  The main concern is that Japan's continued slide despite Abenomics will kick off a round of competitive devaluation in the region.  Thus far, the world has been largely tolerant of the sharp decline of JPY vs RoW.  But another step might be too much.

What happens with European inflation and monetary policy is unknown.  But we are looking at a sustained period of very low rates due to lowflation becoming entrenched or positioning for QE.

Japan is ... stuffed. Mauldin: "Japan is a bug looking for a windshield."


Any other ideas would be appreciated.  I don't know.


----------



## CanOz (19 May 2014)

I think the currency play makes the most sense....but perhaps it just happened at the same time as the European news that the economies had softened again, in the wake of UKR...perhaps....I noted the change in sentiment while watching the Eurex products...


----------



## DeepState (19 May 2014)

CanOz said:


> I think the currency play makes the most sense....but perhaps it just happened at the same time as the European news that the economies had softened again, in the wake of UKR...perhaps....I noted the change in sentiment while watching the Eurex products...




Yes...each material move in Ukraine to escalate has led to yield compression.  But this is not showing through to gold although it might be argued that USD rose on risk aversion. That said, VIX fell.  

Escalation in QE likelihood might also see a rise in gold too and decline in EUR. As it turns out, EURUSD declined at the same time as yields deflated rapidly.  This is consistent with QE fears breaking out as part of the answer.  Even then, though, it was accompanied by bullish US sentiment in economic releases over that period so the exchange rate may have moved on that alone...but would not explain the lowering of bond yields.

So, my story evolves to:

Inflation figures released reveal ongoing weakness in that indicator in EZ. This increases the possibility of QE and other measures.  This drives EZ bond yields down. It also contributes to decline in EURUSD.

US figures released suggest near term growth is still strong and better than expected.  This drives USD up vs RoW.

That should have led to a rise in US bonds yields.  However, the Chinese efforts to keep the USDCNY exchange lower has led to PBoC issuance of notes to acquire USD currency.  This has led to decreases in the interest rate in China.  The investment of foreign reserves in US Treasury and other assets drives the US bond yields lower as well, but not as low as per EZ.


Well, at least that fits with the facts as released and which I am aware of and is in the correct economic direction.

What does it mean?  EURUSD to weaken based on ongoing inflation data (GDP 1st release for March was also weak and so are a bunch of other things )and US yields will rise as a hungry customer is eventually satiated.  EZ bonds are already so low it seems a bad asymmetry.

Anyway....


----------

