Stocks Stabilize as Deutsche Bank Rises; Yen, Bonds Pare Gains

According to Deutsche Bank The expectations concerning inflation as well as the overall economic growth have continued, which in has some serious drawbacks.

One of them is that, for the second week in a row, there is a significant  drop in Treasury yields. The others are no less evident: chaos in the stock markets fueled even further by oil prices that refuse to stabilize, opting for a downward spiral of mayhem instead. The icing on the proverbial cake? The timing for the expected Federal Reserve interest rate increase has moved yet again.

As for the yields, they have also dropped significantly as a direct result of recent developments. For instance, the yield on two-year notes continues to drop for almost three trading weeks straight, reaching the levels that were not seen since last November,  while the 10-year yields dropping below 2 percent hardly surprised anyone even remotely familiar with the overall situation. Finally, the 30-year bonds, whose maturity rate is the most susceptible to the effects of the inflation, due to their long maturity period, is at the lowest point since last August.

The silver lining, if we can even talk about such things in this troubled time, concerns the treasuries, which seem to have benefited from the downfall of equities and oil prices, which have been plummeting for some time. As traders started to give up on guessing the pattern of changes in the Federal Reserve interest rates, there has been another notable development: the 10-year break-even rate has reached the lowest point since last September.

A lot of these developments can be attributed to the psychological effect caused by a sharp decline in oil prices, followed by a similar decline in equities. In this situation, traders are forced to re-examine their predictions and decisions, which can often lead to interesting results and their unforeseen consequences. However, turning to bonds is not one of them – in fact, this turn of events makes perfect sense.

In total, last month saw 1.6 percent in total returns for all treasuries which are due for their maturity date in one year’s time or more, which is a relatively good start, compared to the 0.9 percent they yielded last year. It is even more evident when compared with the Standard & Poor’s 500 index, which has shed some 8 percent so far (this year). Naturally, reinvested dividends are included in this calculation, but one should bear in mind the year has just started and there are countless possible events ahead, with all the consequences and effects that have yet to be revealed.

The global economy is not doing all that well lately, so that should prove to be a reliable insight as to how things will turn out in the near future, setting the tone for the next few months, at least. If one is wondering what will happen in the commodities department, they need look no further than bond yields in order to see the clear picture.

According to most futures traders, the chances that the Federal Reserves will increase borrowing costs next month are slightly below 30 percent. Naturally, they are assuming that there will be no major shifts in the target range, pending the results of the next increase. Otherwise, all bets are off. In order to gain some perspective, the same traders gave it a more than 50 percent at the end of 2015, when the Fed had already decided to increase borrowing costs – something that had not been feasible in almost an entire decade. Others had doubts that such a move would even work, and after all is said and done, time may yet give them a chance to gloat.

As for the U.S. economy, its growth rate is expected surpass its potential, which should in turn support another increase in interest rates – or even several, depending on how well the things work out in the end. There have been no major changes compared to last December, all in all. Still, if everything goes according to plan, there should be a total of four increases in the Fed’s interest rates, which should hopefully raise the effective rate to the planned level of 1.375 percent. However, it remains to be seen just how large will this increase be.

For example, derivatives traders are hoping for a 0.7 percent increase, which means they firmly believe there will be at least one increase in the near future, but their expectations seem to have dropped since last year. Back then, they assumed no less than two increases, and an overall rise in borrowing costs no smaller than 0.90 percent, and the fact that their expectations suddenly turned more ‘realistic’ can mean any number of things. However, the fact that their prognosis is still a positive one is a good sign.


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