Treasury Market Volatility Increases to Highest in Three Years
By Elizabeth Stanton and Daniel Kruger
Sept. 4 (Bloomberg) -- The global flight to the safety of government debt is causing the widest price swings in Treasuries in three years, driving away traders who rely on computer models to guide their strategies and raising costs for investors.
Volatility rose last month to the highest since May 2004 as investors, jolted by losses in securities contaminated by defaulted subprime mortgages, bought U.S. debt, according to data compiled by Merrill Lynch & Co. Morgan Stanley, the second- largest U.S. investment bank by market value, responded by stopping computer-driven buying and selling of Treasuries, said Sanjay Verma, head of U.S. government bond trading.
The retreat by so-called black-box traders and hedge funds caused orders for Treasuries to drop as much as 80 percent, said Mark Ficke, senior managing director at ESpeed Inc., the second- biggest interdealer broker. Securities firms increased commissions as much as nine-fold to avoid losses should offers to buy or sell bonds suddenly disappear, according to Mark MacQueen, a partner at Austin, Texas-based Sage Advisory Services Ltd., which oversees $5 billion.
``If you're flying an airplane on instruments and you run into a hurricane you're probably going to put your hands back on the wheel and pay closer attention,'' said John Roberts, managing director of government bond trading at Barclays Capital Inc. in New York. ``From a trading perspective perhaps you reduce the amount of risk. Some guys pull the plug completely.''
Merrill Lynch's MOVE Index, an options-based gauge of expectations for price swings in Treasuries, touched a three- year high of 118.5 on Aug. 9. The reading means traders expect a yield range of 118.5 basis points on an annualized basis in the coming month. The index fell to a record 51.2 in May. A basis point is 0.01 percentage point.
Treasury Bills
``There's no question that even the most liquid market in the world, the Treasury market, has been facing bouts of illiquidity, occasional discontinuous pricing, and more anomalies than you normally get,'' said Paul Yablon, head of global macro proprietary trading at RBS Greenwich Capital in Greenwich, Connecticut. `It's typical of a financial crisis environment.''
The price swings showed up most in the market for Treasury bills, the safest securities with the shortest maturities. There were 15 days last month when yields on three-month bills swung by 10 or more basis points, according to data compiled by Bloomberg. That happened only six days from the start of 2002 through July. There were only five such swings in the aftermath of the September 2001 terror attacks.
``Volatility's going to lead to wider spreads, less liquidity and more risk,'' Sage Advisory's MacQueen. ``You're paying a little more to get transactions done.''
Bond Rally
The difference brokers charge to buy and sell Treasury bills widened to 20 basis points last month from the typical 1 basis point, he said. That means commissions on a $1 million order swelled to $185, from about $20.
Government bonds rallied for a third week after Federal Reserve Chairman Ben S. Bernanke said Aug. 31 that the central bank will ``act as needed'' to keep ``disruptions in financial markets'' from slowing the economy.
The benchmark 10-year note's yield dropped to 4.53 percent Aug. 31, down 79 basis points from the five-year high of 5.32 percent on June 13. The price of the 4 3/4 percent note maturing in 2017 rose to 101 3/4 last week from 101 3/32 on Aug. 24, according to bond broker Cantor Fitzgerald LP, which controls ESpeed.
Black Boxes
Until a month ago, the interdealer market where firms trade anonymously typically had bids and offers for at least $500 million of two-year notes at the quoted market price, said ESpeed's Ficke. Last week, the amounts were about $100 million, he said. New York-based ESpeed operates one of the two largest interdealer broker systems behind ICAP Plc.
Computer programs for trading operated by hedge funds or Wall Street firms, known as black boxes because only insiders know the variables that run them, ``have taken a less aggressive stance with the increase in volatility,'' Ficke said. ``That in itself creates less liquidity.''
Hedge funds accounted for about 30 percent of bond trading in the year through April, second behind money managers, according to Greenwich, Connecticut-based research firm Greenwich Associates. That was double the amount of bond trading hedge funds did in the previous 12 months.
``We turned them off two months ago, at the beginning of July,'' Morgan Stanley's Verma said of the black-box models. The New York-based firm was ``quicker than others'' to do so, he said.
Bush's Pledge
Volatility in Treasuries has increased as losses in the market for subprime mortgages to people with poor or limited credit pushed up borrowing costs for consumers and companies. The U.S. market for commercial paper, corporate debt maturing in 270 days or less, shrank for a third week, extending the biggest slump in at least seven years, according to Fed data.
As traditional lenders to companies refused to provide credit, the Fed cut the interest rate on loans to banks on Aug. 17 and central banks pumped more than $200 billion into the money markets. President George W. Bush pledged Aug. 31 to help homeowners unable to pay their loans by allowing the Federal Housing Administration, which insures mortgages for low-and middle-income borrowers, to guarantee loans for delinquent households.
Trading averaged a record $767 billion a day last month, according to Fed data tracking the 21 firms that underwrite Treasury bond auctions. That's a reversal from last year when trading by the so-called primary dealers fell for the first time since at least 2001. Transactions averaged $525.2 billion a day, down 5 percent from a record set in 2005.
``We're still in very volatile markets, and as a trader I appreciate volatility,'' said Theodore Ake, head of U.S. government bond trading at primary dealer Mizuho Securities USA Inc. in New York. ``I just want liquidity with my volatility.''
Showing posts with label treasury. Show all posts
Showing posts with label treasury. Show all posts
Tuesday, September 4, 2007
Monday, June 18, 2007
Treasury bonds enter bear market, impact muted
Treasury Rout Is Muffled by Reserves, Tame Inflation (Update1)
By Deborah Finestone
June 18 (Bloomberg) -- The steepest decline in Treasuries since 2004 is convincing even the most bullish investors that U.S. government bonds are now in a bear market.
Bill Gross, the manager of the world's biggest bond fund at Pacific Investment Management Co., and Dan Fuss, whose Loomis Sayles Bond Fund has been the best performer among its peers the last decade, are preparing for higher market rates after yields on 10-year Treasuries, the benchmark for home mortgages and corporate borrowing, rose to a five-year high last week.
While the rout wiped out more than $550 billion from the value of government bonds during the past month, investors don't anticipate the losses of the last two bear markets, in 1994 and 1999. The combination of demand from overseas investors, who have $5.4 trillion in currency reserves, a four-fold increase in derivatives that spread risks among a wider group of investors and the slowest inflation rate since March 2006 increase the chances that this decline will be muted, they said.
``This correction is comparatively modest,'' Jack Malvey, chief global fixed-income strategist at Lehman Brothers Holdings Inc., said in an interview in New York. ``In historical terms, it's like a rainy afternoon, not a category 5 hurricane.''
Treasuries have lost 1.53 percent this quarter, according to indexes compiled by Merrill Lynch & Co. The decline is the biggest since the 3.08 percent drop in same period of 2004 and doesn't even rank among the 10 worst quarters since New York- based Merrill created its U.S. Treasury Master index in 1978.
`Bear Market Manager'
U.S. debt returned 0.13 percent so far in 2007, compared with a loss of 1.24 percent this time last year. Treasuries dropped 3.35 percent 1994 and 2.38 percent in 1999, including reinvested interest, Merrill's index shows.
Government reports on U.S. growth and labor costs helped undermine Treasuries by convincing investors that the Federal Reserve won't reduce its 5.25 percent target interest rate for overnight loans between banks.
The odds that the central bank will cut rates fell to 20 percent last week from 56.4 percent a month ago, while the chances of a rate increase rose to 20 percent from 0.2 percent, based on options on federal funds futures
``After 25 years of being a bull market manager to all of a sudden become a bear market manager, although mildly so in terms of higher interest rates over the next three to five years, is sort of a major shift,'' Gross said on Pimco's Web site June 7. The Newport Beach, California-based company is a unit of Allianz SE in Munich.
Wider Range
Gross, who is raising his holdings of cash and cash equivalent securities while awaiting the Fed's next move, widened his forecast range for 10-year yields on concern inflation may accelerate in countries with weakening currencies such as the U.S. Ten-year yields will probably fluctuate between 4 percent and 6.5 percent until 2011, he said. Previously, Gross said the yield would say between 4 percent and 5.5 percent.
The yield on the benchmark 4 1/2 percent note due May 2017 rose 6 basis points, or 0.06 percentage point, last week to 5.167 percent, according to bond broker Cantor Fitzgerald LP. It reached a five-year high of 5.327 percent on June 13 after former Fed Chairman Alan Greenspan told investors to expect higher yields on Treasuries and emerging market debt. The price of the note fell about 3/8, or $3.75 per $1,000 face amount, to 94 7/8.
Two-year note yields, more closely linked to expectations for central bank policy, rose 3 basis points to end the week at 5.027 percent. The spread between 10-year and two-year yields widened to 14 basis points as investors gave up hopes for a rate cut and demanded more compensation for inflation risks of longer- term debt. At the start of the month, two-year notes yielded more than 10-year Treasuries. Yields were little changed today.
Transition Period
``We've been in, and are still in, a transition from a period of declining rates to a fairly long period of rising rates, maybe 20 years,'' said Fuss at Loomis Sayles in Boston. ``My guess is we're not climbing to where we'll be in the next cycle just yet.''
Even so, Fuss said he's buying longer-maturity Treasuries for his $12.3 billion fund ``as an insurance policy'' in case the economy and inflation slow.
International demand for Treasuries is one reason why investors see less fallout from this bear market. Foreign central banks doubled their holdings of U.S. bonds to $2.1 trillion in the past five years, according to Treasury Department data.
Overseas investors own about 80 percent of the $835.4 billion Treasuries due in three to 10 years, according to research by HSBC Securities USA Inc., the investment banking arm of HBSC Holdings Plc in London. Japan is the largest holder, followed by China and the U.K.
Dollar Gains
While 10-year Treasuries fell for six straight weeks, the dollar gained against the yen, a sign that Japanese investors aren't selling U.S. assets. The yen is down 3.7 percent against the U.S. currency this year.
Yields on 10-year Treasuries are 325 basis points, or 3.25 percentage points, higher than Japanese government bonds with the same maturity, the widest spread in almost four years.
``In the last four or five years, capital markets have become much more fluid than they used to be,'' J. Alfred Broaddus Jr., president of the Federal Reserve Bank of Richmond from 1993 to 2004, said in an interview from Richmond on June 15. ``An excess in savings in other parts of the world has found its way to the U.S. I don't see the forces at work that would turn this to a real bear market in bonds.''
Smaller Gyrations
Even after the 10-year Treasury note fell the most in two years on June 7, swings in yields remained near all-time lows. Merrill Lynch's MOVE Index, a measure of expectations for Treasury volatility, was 78.3 on June 14, compared with an average of 99.6 since its inception in 1988.
The gyrations are smaller, in part, because traders are using more derivatives to reduce their risks.
Financial instruments whose value is derived from stocks, bonds, loans, currencies and commodities, or linked to specific events like changes in the weather or interest rates, have almost quadrupled in the past eight years. They now cover $285.7 trillion in securities, compared with $58.3 trillion, according to the International Swaps and Derivatives Association in New York.
``An extreme selloff seems to be less likely in the current market compared to previous years,'' said Michael Chang, an interest-rate strategist at Credit Suisse Group in New York, one of the 21 primary dealers of U.S. government securities that trade with the Fed. ``Everything seems to be more muted. Even in a bearish market we see more days of rallies.''
Plains Exploration
The drop hasn't shut off credit to companies. Plains Exploration & Production Co. cut the size of its planned $600 million bond sale to $400 million on June 12 as Treasury yields surged. As yields fell the next day, Houston-based Plains boosted the sale back to $600 million. The notes due in 2015 were priced to yield 7.75 percent, up from the planned 7.625 percent.
Some analysts say the bull market for bonds that began Oct. 1, 1981, after Fed Chairman Paul Volcker boosted the central bank's target rate to 20 percent to stem inflation, ended on June 20, 2003. That was when the 10-year yield bottomed at 3.07 percent. Annual returns averaged 2.9 percent from 2003 through 2006, compared with 7.9 percent in the previous five years, Merrill data show.
``We've been range-bound and likely will stay that way,'' Lehman's Malvey said. A rise in 10-year yields to 5.5 percent ``cannot be ruled out,'' though an increase to 5.75 percent ``would very much surprise,'' he said in a report last week.
No Return
Investors say it's difficult to see how yields could return to the 2003 lows as the U.S. sells more debt to finance a budget deficit that will widen to $304 billion in fiscal 2009, according to Congressional Budget Office estimates.
Seventy-four percent of central banks surveyed by Zurich- based UBS AG this month said they increased their holdings of asset-backed securities, emerging market debt and other higher- risk securities this year. In the next year, 68 percent plan to add more, according to the survey, which covers banks that oversee 91 percent of the world's foreign-currency reserves.
In Europe, yields are increasing and creating more competition for Treasuries as economies in the 13-nation euro region expand and the European Central Bank signals it will continue to raise interest rates from the current 4 percent. The yield on 10-year German bunds rose to 4.657 percent last week, from 4.422 percent at the start of June.
``Interest rates are going to go higher as people allocate out of Treasuries for better opportunities,'' said E. Craig Coats, co-head of fixed income in New York at Keefe, Bruyette & Woods Inc. Coats held the same position at Salomon Brothers in the 1980s, when it was the world's biggest bond trader.
Market Rebound
Treasuries climbed at the end of last week after the Labor Department said consumer prices excluding food and energy rose 0.1 percent in May, following a 0.2 percent increase a month earlier. So-called core prices rose 2.2 percent from a year earlier, the smallest year-on-year increase since March 2006.
The real yield, or the difference between market rates on the 10-year note and core consumer prices, was 2.96 percent last week, compared with an average of 2.2 percent over the last year.
Inflation-protected Treasuries maturing in 10 years, which pay interest at lower rates than regular notes on a principal amount linked to the consumer price index, yielded 2.44 percentage points below regular notes. The difference represents the average inflation rate investors anticipate over the life of the security.
`Soon be History'
The U.S. inflation rate is above the Fed's 1 percent to 2 percent comfort zone, and some investors said it will get worse as demand for commodities from emerging markets forces prices higher. China's economy grew at an 11.1 percent annualized rate in the first quarter and crude oil rose to $68 a barrel on June 15, the highest close since September.
``We have been bond bulls for 26 years,'' said Donald G. M. Coxe, a global portfolio strategist at Bank of Montreal in Chicago, who's been in the business since 1972. ``We now believe that inflation is returning, and the great bond bull will soon be history.''
Yields on 10-year notes are close to a ``sell'' signal, according to Louise Yamada, the former chief technical analyst at Citigroup Inc. who now runs Louise Yamada Technical Research Advisors LLC in New York.
``It looks to us as if we are moving into another structural bear market for bonds,'' said Yamada, who relies on historical price patterns to forecast yields. She said the bull market lasted 23 years.
200 Years
The shift from declining rates to rising ones has happened three times in the more than 200-year history of U.S. yields, according to Yamada's research.
Each shift has lasted two to 14 years, she said, based on trends using a mix of interest-rates on foreign loans to the U.S. in the late 1700s, yields on New England municipal bonds in the 19th century, and high-quality corporate and Treasury yields in the past 100 years.
Yields may still fall to 4.75 percent to 5 percent before rising again, she said. ``Since it's the beginning of a long-term trend, the move up should be anticipated to be a gradual one.''
By Deborah Finestone
June 18 (Bloomberg) -- The steepest decline in Treasuries since 2004 is convincing even the most bullish investors that U.S. government bonds are now in a bear market.
Bill Gross, the manager of the world's biggest bond fund at Pacific Investment Management Co., and Dan Fuss, whose Loomis Sayles Bond Fund has been the best performer among its peers the last decade, are preparing for higher market rates after yields on 10-year Treasuries, the benchmark for home mortgages and corporate borrowing, rose to a five-year high last week.
While the rout wiped out more than $550 billion from the value of government bonds during the past month, investors don't anticipate the losses of the last two bear markets, in 1994 and 1999. The combination of demand from overseas investors, who have $5.4 trillion in currency reserves, a four-fold increase in derivatives that spread risks among a wider group of investors and the slowest inflation rate since March 2006 increase the chances that this decline will be muted, they said.
``This correction is comparatively modest,'' Jack Malvey, chief global fixed-income strategist at Lehman Brothers Holdings Inc., said in an interview in New York. ``In historical terms, it's like a rainy afternoon, not a category 5 hurricane.''
Treasuries have lost 1.53 percent this quarter, according to indexes compiled by Merrill Lynch & Co. The decline is the biggest since the 3.08 percent drop in same period of 2004 and doesn't even rank among the 10 worst quarters since New York- based Merrill created its U.S. Treasury Master index in 1978.
`Bear Market Manager'
U.S. debt returned 0.13 percent so far in 2007, compared with a loss of 1.24 percent this time last year. Treasuries dropped 3.35 percent 1994 and 2.38 percent in 1999, including reinvested interest, Merrill's index shows.
Government reports on U.S. growth and labor costs helped undermine Treasuries by convincing investors that the Federal Reserve won't reduce its 5.25 percent target interest rate for overnight loans between banks.
The odds that the central bank will cut rates fell to 20 percent last week from 56.4 percent a month ago, while the chances of a rate increase rose to 20 percent from 0.2 percent, based on options on federal funds futures
``After 25 years of being a bull market manager to all of a sudden become a bear market manager, although mildly so in terms of higher interest rates over the next three to five years, is sort of a major shift,'' Gross said on Pimco's Web site June 7. The Newport Beach, California-based company is a unit of Allianz SE in Munich.
Wider Range
Gross, who is raising his holdings of cash and cash equivalent securities while awaiting the Fed's next move, widened his forecast range for 10-year yields on concern inflation may accelerate in countries with weakening currencies such as the U.S. Ten-year yields will probably fluctuate between 4 percent and 6.5 percent until 2011, he said. Previously, Gross said the yield would say between 4 percent and 5.5 percent.
The yield on the benchmark 4 1/2 percent note due May 2017 rose 6 basis points, or 0.06 percentage point, last week to 5.167 percent, according to bond broker Cantor Fitzgerald LP. It reached a five-year high of 5.327 percent on June 13 after former Fed Chairman Alan Greenspan told investors to expect higher yields on Treasuries and emerging market debt. The price of the note fell about 3/8, or $3.75 per $1,000 face amount, to 94 7/8.
Two-year note yields, more closely linked to expectations for central bank policy, rose 3 basis points to end the week at 5.027 percent. The spread between 10-year and two-year yields widened to 14 basis points as investors gave up hopes for a rate cut and demanded more compensation for inflation risks of longer- term debt. At the start of the month, two-year notes yielded more than 10-year Treasuries. Yields were little changed today.
Transition Period
``We've been in, and are still in, a transition from a period of declining rates to a fairly long period of rising rates, maybe 20 years,'' said Fuss at Loomis Sayles in Boston. ``My guess is we're not climbing to where we'll be in the next cycle just yet.''
Even so, Fuss said he's buying longer-maturity Treasuries for his $12.3 billion fund ``as an insurance policy'' in case the economy and inflation slow.
International demand for Treasuries is one reason why investors see less fallout from this bear market. Foreign central banks doubled their holdings of U.S. bonds to $2.1 trillion in the past five years, according to Treasury Department data.
Overseas investors own about 80 percent of the $835.4 billion Treasuries due in three to 10 years, according to research by HSBC Securities USA Inc., the investment banking arm of HBSC Holdings Plc in London. Japan is the largest holder, followed by China and the U.K.
Dollar Gains
While 10-year Treasuries fell for six straight weeks, the dollar gained against the yen, a sign that Japanese investors aren't selling U.S. assets. The yen is down 3.7 percent against the U.S. currency this year.
Yields on 10-year Treasuries are 325 basis points, or 3.25 percentage points, higher than Japanese government bonds with the same maturity, the widest spread in almost four years.
``In the last four or five years, capital markets have become much more fluid than they used to be,'' J. Alfred Broaddus Jr., president of the Federal Reserve Bank of Richmond from 1993 to 2004, said in an interview from Richmond on June 15. ``An excess in savings in other parts of the world has found its way to the U.S. I don't see the forces at work that would turn this to a real bear market in bonds.''
Smaller Gyrations
Even after the 10-year Treasury note fell the most in two years on June 7, swings in yields remained near all-time lows. Merrill Lynch's MOVE Index, a measure of expectations for Treasury volatility, was 78.3 on June 14, compared with an average of 99.6 since its inception in 1988.
The gyrations are smaller, in part, because traders are using more derivatives to reduce their risks.
Financial instruments whose value is derived from stocks, bonds, loans, currencies and commodities, or linked to specific events like changes in the weather or interest rates, have almost quadrupled in the past eight years. They now cover $285.7 trillion in securities, compared with $58.3 trillion, according to the International Swaps and Derivatives Association in New York.
``An extreme selloff seems to be less likely in the current market compared to previous years,'' said Michael Chang, an interest-rate strategist at Credit Suisse Group in New York, one of the 21 primary dealers of U.S. government securities that trade with the Fed. ``Everything seems to be more muted. Even in a bearish market we see more days of rallies.''
Plains Exploration
The drop hasn't shut off credit to companies. Plains Exploration & Production Co. cut the size of its planned $600 million bond sale to $400 million on June 12 as Treasury yields surged. As yields fell the next day, Houston-based Plains boosted the sale back to $600 million. The notes due in 2015 were priced to yield 7.75 percent, up from the planned 7.625 percent.
Some analysts say the bull market for bonds that began Oct. 1, 1981, after Fed Chairman Paul Volcker boosted the central bank's target rate to 20 percent to stem inflation, ended on June 20, 2003. That was when the 10-year yield bottomed at 3.07 percent. Annual returns averaged 2.9 percent from 2003 through 2006, compared with 7.9 percent in the previous five years, Merrill data show.
``We've been range-bound and likely will stay that way,'' Lehman's Malvey said. A rise in 10-year yields to 5.5 percent ``cannot be ruled out,'' though an increase to 5.75 percent ``would very much surprise,'' he said in a report last week.
No Return
Investors say it's difficult to see how yields could return to the 2003 lows as the U.S. sells more debt to finance a budget deficit that will widen to $304 billion in fiscal 2009, according to Congressional Budget Office estimates.
Seventy-four percent of central banks surveyed by Zurich- based UBS AG this month said they increased their holdings of asset-backed securities, emerging market debt and other higher- risk securities this year. In the next year, 68 percent plan to add more, according to the survey, which covers banks that oversee 91 percent of the world's foreign-currency reserves.
In Europe, yields are increasing and creating more competition for Treasuries as economies in the 13-nation euro region expand and the European Central Bank signals it will continue to raise interest rates from the current 4 percent. The yield on 10-year German bunds rose to 4.657 percent last week, from 4.422 percent at the start of June.
``Interest rates are going to go higher as people allocate out of Treasuries for better opportunities,'' said E. Craig Coats, co-head of fixed income in New York at Keefe, Bruyette & Woods Inc. Coats held the same position at Salomon Brothers in the 1980s, when it was the world's biggest bond trader.
Market Rebound
Treasuries climbed at the end of last week after the Labor Department said consumer prices excluding food and energy rose 0.1 percent in May, following a 0.2 percent increase a month earlier. So-called core prices rose 2.2 percent from a year earlier, the smallest year-on-year increase since March 2006.
The real yield, or the difference between market rates on the 10-year note and core consumer prices, was 2.96 percent last week, compared with an average of 2.2 percent over the last year.
Inflation-protected Treasuries maturing in 10 years, which pay interest at lower rates than regular notes on a principal amount linked to the consumer price index, yielded 2.44 percentage points below regular notes. The difference represents the average inflation rate investors anticipate over the life of the security.
`Soon be History'
The U.S. inflation rate is above the Fed's 1 percent to 2 percent comfort zone, and some investors said it will get worse as demand for commodities from emerging markets forces prices higher. China's economy grew at an 11.1 percent annualized rate in the first quarter and crude oil rose to $68 a barrel on June 15, the highest close since September.
``We have been bond bulls for 26 years,'' said Donald G. M. Coxe, a global portfolio strategist at Bank of Montreal in Chicago, who's been in the business since 1972. ``We now believe that inflation is returning, and the great bond bull will soon be history.''
Yields on 10-year notes are close to a ``sell'' signal, according to Louise Yamada, the former chief technical analyst at Citigroup Inc. who now runs Louise Yamada Technical Research Advisors LLC in New York.
``It looks to us as if we are moving into another structural bear market for bonds,'' said Yamada, who relies on historical price patterns to forecast yields. She said the bull market lasted 23 years.
200 Years
The shift from declining rates to rising ones has happened three times in the more than 200-year history of U.S. yields, according to Yamada's research.
Each shift has lasted two to 14 years, she said, based on trends using a mix of interest-rates on foreign loans to the U.S. in the late 1700s, yields on New England municipal bonds in the 19th century, and high-quality corporate and Treasury yields in the past 100 years.
Yields may still fall to 4.75 percent to 5 percent before rising again, she said. ``Since it's the beginning of a long-term trend, the move up should be anticipated to be a gradual one.''
Friday, June 15, 2007
Global bond selldown may reduce expectations for faster rate hikes
Bernanke, Trichet Get Inflation Help From Surging Bond Yields
By John Fraher and Scott Lanman
June 15 (Bloomberg) -- The six-week global bond market-rout may be doing Ben S. Bernanke and Jean-Claude Trichet a favor.
The higher market rates, if they continue, mean pricier loans for homes and credit cards, and will make it more expensive for companies to invest and make acquisitions.
That in turn may limit the need for Federal Reserve Chairman Bernanke and European Central Bank President Trichet to raise interest rates to cool inflation pressures amid the strongest global economy in a generation.
``It's certainly helping do their job for them,'' said Keith Hembre, who used to work at the Fed and is now chief economist at Minneapolis-based U.S. Bancorp's FAF Advisors Inc., which manages $105 billion. ``It's really, in essence, the equivalent of an additional Fed tightening.''
Hembre estimates that a 30 basis-point rise in the yield on 10-year Treasury notes may be equal to increasing the Fed's benchmark rate by 1 percentage point to 6.25 percent, according to a computer model used by the central bank's staff.
``When we're seeing this backup in rates even without the Fed moving, it's sort of a tightening in and of itself,'' said Kevin Flanagan, a fixed-income strategist at Morgan Stanley in New York.
After years of failing to move in tandem with rates set by central banks, U.S. and European yields have surged to their highest levels since 2002. The yield on the U.S. 10-year note has climbed 52 basis points in the past month and rose to 5.32 percent on June 13, the highest since April 2002.
German Yields
The yield on Germany's 10-year bond, a benchmark for Europe, has risen 34 basis points in the same period and climbed to 4.7 percent two days ago.
Mickey Levy, New York-based chief economist at Bank of America Corp., disputes the idea that higher bond yields may reduce the need for central-bank action. While the housing slump may worsen, there's ``absolutely'' no way to quantify the link between yields and the Fed's benchmark rate, he said.
``It shouldn't have that big of an impact,'' Levy said. In major industrialized countries such as the U.S. and Germany, ``real bond yields have been well below their longer-term average'' and are now moving toward that average. ``It's just an adjustment,'' he said.
Bernanke, 53, and predecessor Alan Greenspan raised the Fed's target rate on overnight loans between banks 17 times, from 1 percent in June 2004 to 5.25 percent a year ago.
Greenspan's `Conundrum'
During that period, the 10-year Treasury yield fell to 4.18 percent from 4.58 percent. The failure of long-term rates to increase prompted Greenspan to tell Congress in February 2005 that ``the broadly unanticipated behavior of world bond markets remains a conundrum.''
After two years of raising their benchmark rate, Fed officials decided in August to stop, partly to wait for the previous increases to have their intended effect. At the same time, officials retained a stance that inflation is the principal economic risk facing the U.S. economy.
``Their general feeling is at 5 1/4 percent, the fed funds rate is probably slightly restrictive,'' said Peter Hooper, chief economist at Deutsche Bank Securities Inc. in New York. ``Other financial conditions have been quite accommodative, and now we're seeing some unwinding of that.''
Bruce Kasman, chief economist at JPMorgan Chase & Co. in New York, said he recently lowered his forecast for the housing market to reflect more-expensive mortgages. He maintains that the Fed will raise its target rate on overnight bank loans next year, reaching 6 percent by mid-2008.
Stronger Growth
``Part of what's happening is growth is stronger, and higher rates are reflecting it,'' Kasman said.
In the euro region, where the ECB has raised its rate by 2 percentage points since December 2005, the move in bond yields might persuade Trichet, 64, to curtail his tightening, according to Robert Barrie of Credit Suisse Group.
While some economists expect the ECB to raise its main rate to 5 percent by next year from the current 4 percent, tighter financial conditions might allow it to stop before then.
``The market's making the ECB's job easier,'' said Barrie, the bank's chief European economist in London, who expects the central bank's rate to peak at 4.5 percent. ``The risks to the forecast were on the upside, but are now to the downside because of what the markets are doing.''
Judging the impact of higher yields on monetary policy may depend on what caused the move in the first place, said Jonathan Loynes, chief U.K. economist at Capital Economics Ltd.
Asian Central Banks
A decline in demand from Asian central banks for U.S. Treasuries may make it easier for the Fed to influence long-term bond yields because it will lessen the downward pressure that emerging-market purchases exerted in recent years.
On the other hand, if the increase was caused by investor expectations for central-bank rate increases, policy makers may have to follow through.
``I don't expect the move in yields to have a large impact on policy,'' said Loynes, who is based in London. ``The relations are too complex, and they can't necessarily count on these moves being sustained.''
By John Fraher and Scott Lanman
June 15 (Bloomberg) -- The six-week global bond market-rout may be doing Ben S. Bernanke and Jean-Claude Trichet a favor.
The higher market rates, if they continue, mean pricier loans for homes and credit cards, and will make it more expensive for companies to invest and make acquisitions.
That in turn may limit the need for Federal Reserve Chairman Bernanke and European Central Bank President Trichet to raise interest rates to cool inflation pressures amid the strongest global economy in a generation.
``It's certainly helping do their job for them,'' said Keith Hembre, who used to work at the Fed and is now chief economist at Minneapolis-based U.S. Bancorp's FAF Advisors Inc., which manages $105 billion. ``It's really, in essence, the equivalent of an additional Fed tightening.''
Hembre estimates that a 30 basis-point rise in the yield on 10-year Treasury notes may be equal to increasing the Fed's benchmark rate by 1 percentage point to 6.25 percent, according to a computer model used by the central bank's staff.
``When we're seeing this backup in rates even without the Fed moving, it's sort of a tightening in and of itself,'' said Kevin Flanagan, a fixed-income strategist at Morgan Stanley in New York.
After years of failing to move in tandem with rates set by central banks, U.S. and European yields have surged to their highest levels since 2002. The yield on the U.S. 10-year note has climbed 52 basis points in the past month and rose to 5.32 percent on June 13, the highest since April 2002.
German Yields
The yield on Germany's 10-year bond, a benchmark for Europe, has risen 34 basis points in the same period and climbed to 4.7 percent two days ago.
Mickey Levy, New York-based chief economist at Bank of America Corp., disputes the idea that higher bond yields may reduce the need for central-bank action. While the housing slump may worsen, there's ``absolutely'' no way to quantify the link between yields and the Fed's benchmark rate, he said.
``It shouldn't have that big of an impact,'' Levy said. In major industrialized countries such as the U.S. and Germany, ``real bond yields have been well below their longer-term average'' and are now moving toward that average. ``It's just an adjustment,'' he said.
Bernanke, 53, and predecessor Alan Greenspan raised the Fed's target rate on overnight loans between banks 17 times, from 1 percent in June 2004 to 5.25 percent a year ago.
Greenspan's `Conundrum'
During that period, the 10-year Treasury yield fell to 4.18 percent from 4.58 percent. The failure of long-term rates to increase prompted Greenspan to tell Congress in February 2005 that ``the broadly unanticipated behavior of world bond markets remains a conundrum.''
After two years of raising their benchmark rate, Fed officials decided in August to stop, partly to wait for the previous increases to have their intended effect. At the same time, officials retained a stance that inflation is the principal economic risk facing the U.S. economy.
``Their general feeling is at 5 1/4 percent, the fed funds rate is probably slightly restrictive,'' said Peter Hooper, chief economist at Deutsche Bank Securities Inc. in New York. ``Other financial conditions have been quite accommodative, and now we're seeing some unwinding of that.''
Bruce Kasman, chief economist at JPMorgan Chase & Co. in New York, said he recently lowered his forecast for the housing market to reflect more-expensive mortgages. He maintains that the Fed will raise its target rate on overnight bank loans next year, reaching 6 percent by mid-2008.
Stronger Growth
``Part of what's happening is growth is stronger, and higher rates are reflecting it,'' Kasman said.
In the euro region, where the ECB has raised its rate by 2 percentage points since December 2005, the move in bond yields might persuade Trichet, 64, to curtail his tightening, according to Robert Barrie of Credit Suisse Group.
While some economists expect the ECB to raise its main rate to 5 percent by next year from the current 4 percent, tighter financial conditions might allow it to stop before then.
``The market's making the ECB's job easier,'' said Barrie, the bank's chief European economist in London, who expects the central bank's rate to peak at 4.5 percent. ``The risks to the forecast were on the upside, but are now to the downside because of what the markets are doing.''
Judging the impact of higher yields on monetary policy may depend on what caused the move in the first place, said Jonathan Loynes, chief U.K. economist at Capital Economics Ltd.
Asian Central Banks
A decline in demand from Asian central banks for U.S. Treasuries may make it easier for the Fed to influence long-term bond yields because it will lessen the downward pressure that emerging-market purchases exerted in recent years.
On the other hand, if the increase was caused by investor expectations for central-bank rate increases, policy makers may have to follow through.
``I don't expect the move in yields to have a large impact on policy,'' said Loynes, who is based in London. ``The relations are too complex, and they can't necessarily count on these moves being sustained.''
Thursday, June 14, 2007
Capital Account Outflow from Japan pushing the Yen lower?
Yen Trades at 4 1/2-Year Low Against Dollar on Yield Disparity
By Agnes Lovasz and David McIntyre
June 14 (Bloomberg) -- The yen traded at the weakest against the dollar since December 2002 as investors were enticed by the yield advantage on U.S. Treasuries over Japanese debt.
The yen has dropped 3 percent this year as traders reduced bets on lower U.S. interest rates, causing the 10-year yield spread with Japan to widen to a four-year high. Traders also expect the Bank of Japan to keep its key interest rate at the lowest among major economies tomorrow. Low Japanese rates have encouraged purchases of higher-yielding assets financed by borrowing in yen, the so-called carry trade.
``We're highlighting outflows by retail investors as the primary driver for yen weakness,'' said Adam Cole, senior currency strategist at Royal Bank of Canada Europe Ltd. in London. ``And the market still has appetite for borrowing yen and buying high-yielding assets. The yen will keep going down.''
The yen fell to a low of 122.97 per dollar, the weakest since Dec. 12, 2002, before trading at 122.89 at 9:13 a.m. in London from 122.72 late in New York yesterday. Cole expects the yen to be at 126 by year-end. It fell to 163.58 per euro, from 163.36. The euro was little changed at $1.3312, bouncing up from $1.3290 earlier.
The Japanese currency's descent may accelerate should it weaken beyond 123, where there are sell orders, said Michiyoshi Kato, a senior vice president of currency sales in Tokyo at Mizuho Corporate Bank Ltd., a unit of Japan's second-largest lender by assets.
``The yen's downward momentum is strong,'' said Kato. ``Yen- selling is likely to continue'' to 123.20 per dollar today.
Japan's currency fell to the weakest in 15 years against the Australian dollar, reaching 103.19 yen, before recovering to 103.01 as Reserve Bank of Australia Governor Glenn Stevens said in a speech today he would have ``time'' to respond to inflation pressures, adding to signs he won't raise rates any time soon.
Interest-Rate Differentials
The yen has fallen 2.7 percent versus the New Zealand dollar and 2.1 percent against Australia's this month as investors took advantage of Japan's borrowing costs to buy assets in those countries. The benchmark rate is 6.25 percent in Australia.
The Reserve Bank of New Zealand raised its key rate to 8 percent on June 7. New Zealand's dollar has rebounded 1.6 percent against the yen to 92.32, after slumping 2.2 percent from a 17- year high of 93.11 on June 11, when the central bank sold the currency to stem gains.
``Investors are focusing on interest-rate differentials,'' said Mizuho's Kato.
The difference in yield between a 10-year Japanese and U.S. note was 3.26 percentage points, near the widest since March 2005.
The BOJ will hold its target rate at 0.5 percent tomorrow, according to all 43 economists surveyed by Bloomberg. That compares to 5.25 percent in the U.S.
Barrier Options
Gains in the dollar against the yen may stall around 123, because of sell orders to protect barrier options, said Nobuaki Tani, a senior currency dealer at Resona Bank Ltd. in Tokyo.
``There seem to be a lot of offers between 122.80 and 123, some of which are to defend options,'' Tani said.
A barrier has a knock-out that renders an option worthless should it be triggered. Options give holders the right to buy or sell a currency at a set price on a fixed date. An investor who buys an option can only lose the premium paid.
The euro may be supported by speculation a report today will show inflation in the 13-nation region remained close to the European Central Bank's 2 percent ceiling for a third month.
ECB Rate Hikes
Europe's single currency yesterday rebounded from an 11-week low against the dollar after ECB President Jean-Claude Trichet said the central bank will deliver price stability, suggesting higher borrowing costs.
``We're likely to see more ECB rate hikes,'' said Lee Wai Tuck, currency strategist at Forecast Singapore Ltd. ``This will be positive for the euro,'' which may advance to $1.3380 and 164 yen today.
The euro may trim a 1.1 percent decline versus the dollar this month as consumer prices probably increased 1.9 percent in May from a year earlier, according to a Bloomberg News survey.
Interest-rate futures show traders are betting on at least one more quarter-point rate increase from 4 percent, and have increased wagers on a second one by year-end.
The implied yield on the December Euribor contract was 4.545 percent, up from 4.515 percent a week earlier. The contract settles to the three-month interbank offered rate for the euro, which has averaged about 16 basis points more than the key rate since 1999.
The Swiss franc erased gains against the euro and fell against the dollar after the central bank raised its target interest rate a quarter point to 2.5 percent today.
Against the euro, the franc traded at 1.6574, from 1.6550 shortly before the rate decision, and 1.6566 late yesterday. It was also at 1.2450 to the dollar, from 1.2446.
By Agnes Lovasz and David McIntyre
June 14 (Bloomberg) -- The yen traded at the weakest against the dollar since December 2002 as investors were enticed by the yield advantage on U.S. Treasuries over Japanese debt.
The yen has dropped 3 percent this year as traders reduced bets on lower U.S. interest rates, causing the 10-year yield spread with Japan to widen to a four-year high. Traders also expect the Bank of Japan to keep its key interest rate at the lowest among major economies tomorrow. Low Japanese rates have encouraged purchases of higher-yielding assets financed by borrowing in yen, the so-called carry trade.
``We're highlighting outflows by retail investors as the primary driver for yen weakness,'' said Adam Cole, senior currency strategist at Royal Bank of Canada Europe Ltd. in London. ``And the market still has appetite for borrowing yen and buying high-yielding assets. The yen will keep going down.''
The yen fell to a low of 122.97 per dollar, the weakest since Dec. 12, 2002, before trading at 122.89 at 9:13 a.m. in London from 122.72 late in New York yesterday. Cole expects the yen to be at 126 by year-end. It fell to 163.58 per euro, from 163.36. The euro was little changed at $1.3312, bouncing up from $1.3290 earlier.
The Japanese currency's descent may accelerate should it weaken beyond 123, where there are sell orders, said Michiyoshi Kato, a senior vice president of currency sales in Tokyo at Mizuho Corporate Bank Ltd., a unit of Japan's second-largest lender by assets.
``The yen's downward momentum is strong,'' said Kato. ``Yen- selling is likely to continue'' to 123.20 per dollar today.
Japan's currency fell to the weakest in 15 years against the Australian dollar, reaching 103.19 yen, before recovering to 103.01 as Reserve Bank of Australia Governor Glenn Stevens said in a speech today he would have ``time'' to respond to inflation pressures, adding to signs he won't raise rates any time soon.
Interest-Rate Differentials
The yen has fallen 2.7 percent versus the New Zealand dollar and 2.1 percent against Australia's this month as investors took advantage of Japan's borrowing costs to buy assets in those countries. The benchmark rate is 6.25 percent in Australia.
The Reserve Bank of New Zealand raised its key rate to 8 percent on June 7. New Zealand's dollar has rebounded 1.6 percent against the yen to 92.32, after slumping 2.2 percent from a 17- year high of 93.11 on June 11, when the central bank sold the currency to stem gains.
``Investors are focusing on interest-rate differentials,'' said Mizuho's Kato.
The difference in yield between a 10-year Japanese and U.S. note was 3.26 percentage points, near the widest since March 2005.
The BOJ will hold its target rate at 0.5 percent tomorrow, according to all 43 economists surveyed by Bloomberg. That compares to 5.25 percent in the U.S.
Barrier Options
Gains in the dollar against the yen may stall around 123, because of sell orders to protect barrier options, said Nobuaki Tani, a senior currency dealer at Resona Bank Ltd. in Tokyo.
``There seem to be a lot of offers between 122.80 and 123, some of which are to defend options,'' Tani said.
A barrier has a knock-out that renders an option worthless should it be triggered. Options give holders the right to buy or sell a currency at a set price on a fixed date. An investor who buys an option can only lose the premium paid.
The euro may be supported by speculation a report today will show inflation in the 13-nation region remained close to the European Central Bank's 2 percent ceiling for a third month.
ECB Rate Hikes
Europe's single currency yesterday rebounded from an 11-week low against the dollar after ECB President Jean-Claude Trichet said the central bank will deliver price stability, suggesting higher borrowing costs.
``We're likely to see more ECB rate hikes,'' said Lee Wai Tuck, currency strategist at Forecast Singapore Ltd. ``This will be positive for the euro,'' which may advance to $1.3380 and 164 yen today.
The euro may trim a 1.1 percent decline versus the dollar this month as consumer prices probably increased 1.9 percent in May from a year earlier, according to a Bloomberg News survey.
Interest-rate futures show traders are betting on at least one more quarter-point rate increase from 4 percent, and have increased wagers on a second one by year-end.
The implied yield on the December Euribor contract was 4.545 percent, up from 4.515 percent a week earlier. The contract settles to the three-month interbank offered rate for the euro, which has averaged about 16 basis points more than the key rate since 1999.
The Swiss franc erased gains against the euro and fell against the dollar after the central bank raised its target interest rate a quarter point to 2.5 percent today.
Against the euro, the franc traded at 1.6574, from 1.6550 shortly before the rate decision, and 1.6566 late yesterday. It was also at 1.2450 to the dollar, from 1.2446.
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