C’était le RDV de cette fin du mois de juillet ; K. Warsh semble l’avoir raté. Non pas que la décision de la Fed de maintenir les Fed Funds inchangés ait surpris, elle était en effet largement attendue. Ce qui l’était moins est le sentiment d’un président de la Fed totalement indécis et dépourvu de stratégie.
Improving economic indicators, ongoing accommodative monetary policy from the Fed and the bountiful reporting season have propelled U.S. equity indices to new highs in recent days: the S&P has added gains of 6% in the last three months making for a YTD gain of 18% and has even flirted with the 2,000 point level. The confidence backing up these trends is, however, a far cry from the signals the bond markets are sending us. Since the end of April, the yield on 10-year T-bonds has fallen to below 2.50%, i.e. 25 basis points less than mid-April levels and 50bps off from where it started the year. Such distortions between equity and bond markets are tough to reconcile over the duration and will end up being corrected. It is merely a question of when and to what extent. The response will come from economic changes in the coming months. So what should the market being taking a very hard look at?
Will they rise or won’t they? There is no end to the uncertainty on the future direction of long-term interest rates. Impatience is growing as well, with, however, this paradox: the fear of being surprised by a precipitous drop in prices on the bond markets (i.e. rocketing long rates) contrasts with the long-held desire to see long rates increase, which would be a clear signal that economic conditions have improved. For nearly one year (since the start of the « taper caper »), the US market has been on edge. Now, the Bank of Japan has said it is concerned that Japanese bond markets are not taking the country’s new inflation context into account, worried about the effects should inflation finally wake up. These kinds of comments are surprising to say the least….
Since the Fed began to taper in January, yields on 10-year government bonds have fallen across the board: 25 basis points in the U.S., nearly 80bp in Spain, 65bp in Italy and 30bp in Germany. Even the poor news from the latest FOMC held on Wednesday only had a marginal effect on 10Y yields in the U.S., which finished trading yesterday at 2.77%, i.e. where they were some ten days ago.
None of this resembles the generally-accepted scenario about what would happen when the Fed began to change course on quantitative easing. In fact, the consensus was that the taper would trigger a sharp increase in long-term interest rates in the western world. This simply hasn’t played out. Why? And what should be made of it?