Global Weekly: Higher rates in the offing?

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This week, Jamie Dimon, CEO of JPMorgan, advised investors to prepare for 4% yield levels in the US. At the time of writing, the 10-year US Treasury yield is hovering around 3%. Although we see room for further yield increases as well, 4% seems too far-fetched. We expect the US 10-year yield to be at 3.2% at the end of this year.

The US government is stimulating growth and the Federal Reserve (Fed) is ready to hike its policy rate further. At the same time, the Fed is stopping its reinvestment of asset purchases, letting securities mature without reinvesting the proceeds (effectively pulling money out of the system). The big question remains: when will all this lead to inflationary developments?

The interest rate story in the eurozone is somewhat different. Last week’s disappointing inflation numbers actually caused the 10-year yield on German Bunds to drop. For Europe, the big question is: when and how is the ECB going to stop its asset purchase programme? As long as the ECB is buying corporate bonds, it provides support to this bond segment. However, as it is clear that the ECB will pull the plug on its asset purchases somewhere in the second half of this year, we are getting less comfortable with holding a large position in euro corporate bonds. Risk premia on corporate bonds have increased lately, with prices – moving inversely to yields – falling. Recently, it became clear that the ECB had been buying less than previously anticipated by investors.

Earnings season drawing to an end

Stock markets edged slightly higher this week. The decision by the US to exit the Iran nuclear deal and reinstate sanctions against the country did not unnerve investors. Stock markets hardly reacted to the news, with the exception of energy companies, which rose as the return of sanctions will lead to less supply of Iranian oil. Oil prices also responded to the US pulling out of the Iran deal: WTI Crude oil rose to above US 70 per barrel. Equity investors were not impressed by the fact that the US 10-year Treasury yield temporarily broke through the 3% level. Market participants seem confident that strong growth in the US will not lead to overheating of the economy or inflation spiralling out of control.

The first-quarter earnings season is almost over now, as the vast majority of companies in both the US and Europe have reported their results. The main conclusion is that US companies reported stronger numbers than their European counterparts. European companies reported just 5% earnings growth on average, while S&P 500 members showed almost 25% growth. The big difference can be attributed to the following factors: 1) a lower corporate tax rate in the US, 2) a weak dollar has helped US earnings and 3) the fast-growing IT sector is much larger in the US than in Europe. Interestingly, US and European stocks showed similar performances (in euro terms) since the start of the earnings season, indicating that investors had anticipated earnings figures in the US to be stronger than in Europe.

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