Dear clients,
Budgetary concerns and fears of a prolonged period of higher interest rates caused government bonds to fall in the third quarter, and some investors believe more weakness lies ahead.
US and German government bond yields were set to end September with their biggest quarterly gains in a year. Fund managers had already hoped for relief after the historic losses suffered by bonds in 2022, when the US Federal Reserve and other central banks raised interest rates to curb soaring inflation.
While bond yields, which move inversely to prices, seemed to have peaked earlier this year, renewed hawkish sentiment from central banks has led to a fresh rise in recent weeks.
In the US, for example, the benchmark yield on 10-year Treasuries is currently at a 16-year high of 4.55% and some investors believe it could rise to 5%, a level not seen since 2007. According to Bank of America Global Research, Treasuries have posted their third consecutive year of losses, an event without precedent in U.S. history.
The jump in yields is having a negative impact on equities, which in the U.S. and Europe are poised for their first quarterly decline of the year. Monetary policy expectations have been a key factor: last week, the Fed surprised investors with its hawkish rate forecasts, according to which borrowing costs will remain at current levels for most of 2024.
Investors had to quickly readjust: traders are now betting that the Fed Funds rate, currently at 5.25%-5.50%, will fall to 4.8% by the end of 2024, well above the 4.3% they forecast in late August.
Similarly, investors have pushed back expectations of a rate cut by the European Central Bank as policymakers stick to their course of keeping rates high for a long time. Prices in currency markets indicate that traders see the ECB deposit rate at around 3.5% by the end of 2024, up from 3.25% at the end of August.
Rising yields have not only hit bond investors, but also hurt equities, creating investment competition while raising the cost of borrowing for corporations and households.
The S&P 500 index (.SPX) fell 3.4% in the current quarter, its worst drop in a year, though it is up 11.3% since the beginning of the year. Europe’s Stoxx 600 index (.STOXX), meanwhile, is up 5.6% this year but has lost 2.9% over the past three months.
