Global Bond Yields Fall Sharply
(This
is for information purposes only. This should not be construed as a
recommendation or investment advice even though the author is a CFA Charterholder. Please consult your financial
adviser before taking any investment decision. Safe to assume the author has a vested
interest in stocks / investments discussed if any.)
During its meeting on 01Nov2023, the Federal Open Market Committee (FOMC) of the US Federal Reserve decided to hold its benchmark rate, the US Federal Funds rate, unchanged.
The financial markets considered the Fed decision as 'dovish' resulting in a big rally in bond prices, not only in the US but among major developed nations.
From 4.90 percent at the end of October 2023, the US 10-year Treasury yield fell to 3.87 percent by the end of December 2023, reversing the losses for bond investors (bond prices move inversely to bond yields, that is, when bond prices rise, bond yields fall and vice versa).
Earlier on 23Oct2023, the 10-year US Treasury yield touched a high of 5 percent, which was the highest in 16 years.
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The
following four tables will describe how bond yields, benchmark interest
rates and inflation rates moved between end-30Sep2023 and
end-31Dec2023, that is, during the last quarter of 2023.
Table 1: Real interest rates:
Table 1 above delineates real interest rates, consumer price inflation (CPI), benchmark interest rates and 10-year bond yields of major nations.
Compared to nine months ago, more major nations enjoy positive real interest rates now, which are good for savers.
The real interest rate (benchmark policy rate minus CPI inflation) is 2.27 percent for the US, 1.35 percent for the UK, 7.07 percent for Brazil and so on.
Countries, like, Japan, Australia and Turkey have negative real interest rates as shown in table 1 above. With a negative real interest rate of 19.5 percent, Turkey is a bizarre case.
Turkey was reducing, during the latter part of 2021 and early part of 2022, its interest rates even as inflation was raging. Turkey's supreme leader Recep
Tayyip Erdogan was driving the monetary policy in reverse gear,
by cutting down interest rates drastically even though inflation had
gone up substantially and Turkish Lira had been falling precipitously.
However, after presidential elections in Turkey in May 2023, Turkey's central bank started raising interest rates to anchor inflationary expectations. As per latest available numbers, Turkey's official CPI inflation is 62 percent.
Table 2: CPI Inflation:
During the fourth quarter of 2023, consumer price inflation (CPI inflation) rates across major nations have fallen between 460 basis points and 7 basis points (100 basis points equal one percentage point).
But CPI inflation rates in Turkey, Russia and the Netherlands have risen between 140 basis points and 304 basis points.
The main reason for the sharp decline in inflation rates in the US and Europe is mainly due to fall in commodity prices, like, crude oil, natural gas, coal, gasoline, wheat, cheese and milk.
Interestingly, Japan's CPI inflation at 2.80 percent is higher than Euro area's inflation of 2.40 percent. For longer than a few decades, Japan suffered deflation and in recent years, it is experiencing a little bit of inflation.
Table 3: 10-year bond yields:
For all the countries shown in table 3 above, 10-year bond yields have fallen, especially in the past two months following the FOMC meet on 01Nov2023.
No major central bank has decreased interest rate during Oct-Dec2023 quarter (see table 4 below). Despite not decreasing the benchmark interest rates, the 10-year yields of the major countries have fallen sharply during the fourth quarter.
For example, the 10-year bond yield in the UK was down 92 basis points; in Brazil, it was down 144 basis points and in Italy it was down 112 basis points -- even though there was no change in their benchmark policy interest rates (see table 4 below).
Why is this so? In general, bond yields move in line with changes in interest rates by central banks; in turn, raising / falling inflationary expectations influence the central banks to increase / decrease the interest rates.
During the fourth quarter, the stance of US Federal Reserve, the central bank of the US, has given the hope for markets that the Fed would be forced to cut interest rates next year.
The market expectations and speculation that the Fed would cut interest rates in 2024 has fueled a big rally in bond prices, with the US 10-year Treasury yield falling by 71 basis points in the fourth quarter -- even though no central bank actually cut interest rates.
However, central banks of Russia, Turkey and Australia raised their benchmark interest rates during Oct-Dec2023 quarter (see table 4 below).
Table 4: Central Bank benchmark rates:
Argentina:
Before we close, it is worth mentioning what is happening in Argentina. Since 2012, Argentina has been experiencing anemic growth in GDP (gross domestic product or national income). It has also been experiencing runaway inflation in the past 10 years.
The current inflation rate is 161 percent there and unemployment rate is 5.7 percent. Argentine central bank's benchmark policy rate is 100 percent.
During second week of Dec2023, Argentina's new government led by Javier Milei devalued its currency peso by more than 50 percent. The new president Milei openly says he will overhaul the government and economy by bringing in radical and unconventional policies.
Before the devaluation announcement in second week of Dec2023, Argentine peso was quoting at around 365 pesos to the US dollar. After devaluation, it is currently quoting at 808 pesos.
The Argentine government says it has no money and argues these radical measures, like, currency devaluation, are painful in short term but would bring long term benefits.
Argentina is South America's second largest economy, but it has a long history of political and economic instability. For long, it has been plagued by military coups and vagaries populist governments.
It has a history of foreign debt default also.
According to Wikipedia, Argentina has defaulted on its debt nine times since 1816 - the latest international debt defaults are in 2001, 2014 and 2020.
Strangely, Argentina was one of the world's wealthiest countries at the beginning of 20th century. It wouldn't be an exaggeration to say it was better than the US in those days on several metrics.
It has rich natural resources and a well-educated workforce. It is world's eighth largest country by area with 1.8 percent of world's landmass.
That such a country should face an economic crisis repeatedly is quite odd. There seems to be no end to economic chaos in Argentina. Let us see whether the new government will bring the economic ship to stability.
Every country needs to learn a lot from Argentina's economic and political failures.
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Disclosure: I've vested interested in Indian stocks and other investments. It's safe to assume I've interest in the financial instruments / products discussed, if any.
Disclaimer: The analysis and opinion provided here are only for information purposes and should not be construed as investment advice. Investors should consult their own financial advisers before making any investments. The author is a CFA Charterholder with a vested interest in financial markets.
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