In the last month, the 10-year US bond yield reached 5%, the 10-year Euribor reached 3.5% and the Bund practically reached 3%. All key levels, and a clear manifestation of a previous reversal from the abnormally low rates seen during the pandemic years. Even the 10-year Japanese government bond (JGB) is belatedly advancing towards 1%, a level not seen in a decade. There are many good reasons to expect that the upward pressure on market rates will continue, at least until we see a substantial change in the complex macroeconomic mix that continues to show a tinge of residual strength – or, at the very least, resilience. Inflation is down but not abated, which means the battle continues.
The Bank of Japan had been reluctant for a long time, but the manifestation of this in the weakness of the yen has been there for all to see for an extended period. The European Central Bank (ECB) also took relatively little time to push the increases. Even the Federal Reserve was late to the rate raising process, as inflation was allowed to take hold first. The ECB and the Federal Reserve are likely done at this point, but the bond market is not yet calling for the upward pressure on longer-term rates to stop. There are many reasons to worry, but also many reasons to expect a continuation formation in which market returns remain elevated with ambitions to retest higher. We are likely at or near highs, but we can also move higher first.
In recent days, there has been a major move lower in market yields, with the US 10-year bond yield falling to 4.65% and the 10-year German Bund yield down to 2.7%. This is down from recent highs of 5% and almost 3% respectively. The key factor has been the evidence of tension in the expectations measures. Inflation has also continued to be reduced. On top of that, the US Treasury issued issuance plans that relieved some pressure on longer-term maturities. However, we are not convinced that this is the end of long-term market rate increases. For that to happen, we would need to see material labor market weakness, especially in the United States.