The march to lower yields continues

Overview

The march to lower yields continues, now coupled with the weakening of the US dollar. Excessive buying of the greenback in the six weeks to mid-June have now been unwound, the Euro hitting a high at $1.3334, dollar/yen a new low for this year at 85.07, the Singapore dollar almost matching its record low at 1.3440, and this weeks best performer the South Korean won at 1160. Benchmark US two-year TNotes’ yield dipped to a new record low 0.513%, UK five-year likewise at 1.97%, foreign currency Brazilian and Russian bonds at new record lows of 2.56% (USD 2014) and 4.65% (EUR 30-year). Five-year maturities are outperforming, flattening that part of the curve while long-dated paper remains out of favour steepening the back end; ten-year JGB’s touched 1.00% their lowest since 2003. US Treasury Inflation Protected Securities (TIPS) out to 2015 now have negative yields of up to 49 basis points; 2.5% 2016 Index-Linked Gilts yield just 7 basis points. Note that US CPI is currently running at +1.1% Y/Y, Japanese prices excluding fresh food –1.0%, so that US Treasury real rates are mostly negative while Japanese ones are some of the few yielding a real 2.00%. Stock indices rallied on average by 2.00% this week, Germany, Helsinki, Mumbai, Singapore and Sweden inching to new highs for this year, easing from here this afternoon. Commodities generally rallied, a combination of dollar weakness and weather related (see below).

Political and Economic Developments

Eagerly anticipated US employment figures out today showing joblessness remained at 9.5% but as census workers were laid off a total of 131K jobs were lost, June’s losses revised up by 96K to a loss of 221K jobs. Weekly Unemployment claims hinted as such, edging up to 479K, just under the 490K that has capped since November 13th and well above July’s 427K floor. A total 14.6 million Americans are now unemployed, 44% for over six months. Flat June earnings and consumer spending unusually remained steady as Americans save rather than shop. From a rate of roughly 2% to 4% since 1999, and 0% to 2% between 2005 and 2008, they are now saving 6.4% as they did in the late eighties. Deleveraging de rigueur.
The Bank of England, ECB and Reserve Bank of Australia left rates unchanged at 0.50%, 1.00%, 4.50% respectively.

Underlying Themes

Nature, and more specifically the weather, has unleashed just some of her infinite powers on the world this year, reminding us how fragile life is. From earthquakes, volcanoes and oil spills, now heat waves and floods. Summer temperatures in the North East of the USA and across Europe have been unusually high, Moscow hitting a record 39 degrees Celsius and triggering forest fires which have blanketed the city in thick smoke. Wheat exports have been cancelled, Ukraine and Kazakhstan hard hit too, traders declaring force majeure and front month futures on the CBOT hitting 841 cents per bushel (almost double June’s level), dragging Oats (297) and Corn (425) in its wake. One weather station in Ireland recorded its wettest summer since measuring began in 1950 and the heaviest monsoon rains in eighty years flooded vast areas of Pakistan killing 1,600, rendering four million homeless. Since mid-July the worst rainstorms in a decade batter southern China, 1,100 dead or missing and 3M evacuations.

What to watch for next week

Monday Japan June Current Account, July Money Supply and Bank Lending, Bankruptcies, Economy Watchers’ Survey, German Trade Balance and Eurozone August Sentix Investor Confidence. Tuesday UK July RICS House Price Balance, DCLG June House Prices and Trade Balance, the Bank of Japan sets rates (expected unchanged at 0.10%) as July Machine Tool Orders are released, then US Small Business Optimism, June Wholesale Inventories, Q2 Unit Labour Costs and Non-Farm Productivity as the Fed decides on monetary policy (rates expected unchanged at 0.25% but watch for possible Quantative Easing steps). Wednesday Japan June Machine Orders, July Domestic CGPI, UK Nationwide Consumer Confidence, Unemployment, June Average Earnings and ILO Unemployed, the Bank of England’s Quarterly Inflation Report, US June Trade Balance and July Monthly Budget Statement. Thursday Japan July Consumer Confidence, US Import Price Index and EZ16 June Industrial Production. Friday the 13th German and Eurozone Q2 GDP, EZ16 June Trade Balance, US Business Inventories, July CPI, Retail Sales and August University of Michigan Confidence Survey.

Positioning and Technical Analysis

We continue to feel that rather than a quiet month August will see trends develop and more chaotic conditions predominate. Many top-rated bonds should see yields tumble to new record lows, those of dubious quality likely to suffer another hit as holders are forced out. The increasingly glaring spread between the two will become the domain of specialist firms only as credit committees relegate these to speculative status. The move to generalised US dollar weakness should continue and possibly gather pace as those returning from holiday are forced to take remedial action. Stock markets will probably be subject to increasingly violent intra-day swings.