Maryline Perrinet, Research Analyst at Natixis, notes that currently, correlation between TNote and Bund sits at 54%, which corresponds to the levels observed in 2011, this when the correlation between sovereign rates in the US and Europe had been camping above 80% on average.
Key Quotes
“Why this brutal change of regime?
The strong correlation observed in 2016 can be explained by investment flow metrics: investors engaged in arbitraging between risk-free assets on both sides of the Atlantic during a period of negative interest rates in the Eurozone. Also there was the fact that quantitative easing (QE) drove domestic investors in the Eurozone to buy foreign bonds, which lessened QE’s impact on Eurozone interest rates. At the same time, the Federal Reserve proved sensitive to the international environment, notably uncertainties arising from the EU referendum in the UK. As a result, the divergence in monetary policies was not the factor of de-correlation it should have been in 2016.
By contrast, the new regime takes on board both the lags in the cycles and the expectations regarding the future trajectory of monetary policy at the respective central banks (even though the prospect of a tapering by the ECB is very much on the cards at the start of 2018).”
“Since Donald Trump’s election, the rise in interest rates is the telltale sign of the new playing field in the bond markets.”
“The reasons lie in the domestic political component and a context that is more favourable to inflation, which is being fuelled by the upturn in commodity prices, notably for crude oil. What can be observed is that the political component is not of the same order depending on whether it is external or domestic. In the US, the upturn in inflation and the fiscal stimulus package proposed by Donald Trump (coming when there is full employment) would lead to inflationary pressures on wages and to the appreciation of the US dollar. Reacting to these expectations, the markets have pushed up US interest rates since Donald Trump’s election. This factor has had a greater impact on US Treasuries than the political risks in Europe.”
“These factors are behind this discontinuity, ushering in a new regime, which could be described as more conventional in that measures and announcements by central banks once again play a decisive role.”
“Correlation being weak by past standards, the prospect is that it will recover to normative levels, which in turn is favourable to there being greater stability in the TNote-Bund spread in Q1 2017.”
Information on these pages contains forward-looking statements that involve risks and uncertainties. Markets and instruments profiled on this page are for informational purposes only and should not in any way come across as a recommendation to buy or sell in these assets. You should do your own thorough research before making any investment decisions. FXStreet does not in any way guarantee that this information is free from mistakes, errors, or material misstatements. It also does not guarantee that this information is of a timely nature. Investing in Open Markets involves a great deal of risk, including the loss of all or a portion of your investment, as well as emotional distress. All risks, losses and costs associated with investing, including total loss of principal, are your responsibility. The views and opinions expressed in this article are those of the authors and do not necessarily reflect the official policy or position of FXStreet nor its advertisers. The author will not be held responsible for information that is found at the end of links posted on this page.
If not otherwise explicitly mentioned in the body of the article, at the time of writing, the author has no position in any stock mentioned in this article and no business relationship with any company mentioned. The author has not received compensation for writing this article, other than from FXStreet.
FXStreet and the author do not provide personalized recommendations. The author makes no representations as to the accuracy, completeness, or suitability of this information. FXStreet and the author will not be liable for any errors, omissions or any losses, injuries or damages arising from this information and its display or use. Errors and omissions excepted.
The author and FXStreet are not registered investment advisors and nothing in this article is intended to be investment advice.
Recommended content
Editors’ Picks
EUR/USD clings to daily gains above 1.0650
EUR/USD gained traction and turned positive on the day above 1.0650. The improvement seen in risk mood following the earlier flight to safety weighs on the US Dollar ahead of the weekend and helps the pair push higher.
GBP/USD recovers toward 1.2450 after UK Retail Sales data
GBP/USD reversed its direction and advanced to the 1.2450 area after touching a fresh multi-month low below 1.2400 in the Asian session. The positive shift seen in risk mood on easing fears over a deepening Iran-Israel conflict supports the pair.
Gold holds steady at around $2,380 following earlier spike
Gold stabilized near $2,380 after spiking above $2,400 with the immediate reaction to reports of Israel striking Iran. Meanwhile, the pullback seen in the US Treasury bond yields helps XAU/USD hold its ground.
Bitcoin Weekly Forecast: BTC post-halving rally could be partially priced in Premium
Bitcoin price shows no signs of directional bias while it holds above $60,000. The fourth BTC halving is partially priced in, according to Deutsche Bank’s research.
Week ahead – US GDP and BoJ decision on top of next week’s agenda
US GDP, core PCE and PMIs the next tests for the Dollar. Investors await BoJ for guidance about next rate hike. EU and UK PMIs, as well as Australian CPIs also on tap.