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By Kevin Flanagan, Senior Fixed Income Strategist, WisdomTree
Special to the Financial Independence Hub
Unfortunately for fixed income investors, the search for yield remains an ongoing challenge. Without a doubt, a primary culprit behind the historically low-rate backdrop in the U.S. are overseas developments, as developed world sovereign debt yields have been hitting their own new lows throughout the summer.
The low-rate phenomenon does not necessarily have a “center of the universe” aspect to it, either, as yield levels on a global scale are all part of this spectacle. As the graph below clearly illustrates, low sovereign debt yields can be found throughout the G7 group of nations, ranging from Japan and Europe (Germany, France, UK, Italy) to North America (U.S., Canada).
Indeed, as of this writing, the bellwether 10-year maturity ranges from a low of -0.11% in Japan and Germany to a high of only 1.51% here at home. In between, France is barely above the zero threshold, while Canada and Italy post readings around the 1% level. The UK had been the second-highest-yielding sovereign rate, but the recent Brexit fallout has 10-year gilts back into the middle of the pack, making the UK a full-fledged member of the “negative and sub 1%” club.
10-year Treasury Yields
The reasons behind the current — and more than likely upcoming — environment have been well documented: slow global growth, low inflation, flight-to-quality/event risks and the monetary policy responses associated with these developments.
While there was some disappointment following the Bank of Japan’s latest policy meeting, it is widely believed that more stimulus could be forthcoming and will be dovetailed with fiscal policy. Within the eurozone, the European Central Bank (ECB) should maintain its unprecedented easing responses as well. In fact, at his most recent press conference, ECB president Mario Draghi stated that the ECB is “ready, willing, able to act” if additional stimulus is needed.
The recent action by the Bank of England to not only cut rates but also resume its own quantitative easing (QE) program underscored the point that G7 central bank policies should continue to keep rates historically low.
Conclusion
Do the latest jobs reports alter the outlook for the Fed, where U.S. policy makers could buck the trend of the other G7 central banks? Despite two consecutive months of better-than-expected employment data, the base case scenario still does not predict a Fed rate hike before its December policy meeting. The Fed still seems to be taking a very deliberate, go-slow approach to monetary policy. Against this backdrop, investors will be continuing their search for yield. According to Bloomberg, the UST 10-Year yield is holding “close to a four-month high versus their Group of Seven peers,” a landscape that should continue to favor U.S.-based fixed income securities.
Unless otherwise noted, data source is Bloomberg, as of 8/8/2016.
Important Risks Related to this Article
Fixed income investments are subject to interest rate risk; their value will normally decline as interest rates rise. In addition, when interest rates fall, income may decline. Fixed income investments are also subject to credit risk, the risk that the issuer of a bond will fail to pay interest and principal in a timely manner or that negative perceptions of the issuer’s ability to make such payments will cause the price of that bond to decline.
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