US average hourly earnings came out last Friday at +2.9% year over year against +2.6% expected
08 February 2018
Last week there was only one topic : fixed income markets !
The US 10y Note yield continues to go higher: 2.65% at the end of January and 2.85% last Friday, the highest since 2014. The German 10y Bund follows closely and rise from 0.63% to 0.75%, the highest since 2015. Reasons of that move?
- FOMC was on the hawkish side. Fed’s tone was more confident on the inflation side;
- Economic data continues to be strong (Consumer confidence, conference board, Chinese PMI, Manufacturing ISM…);
- The most significant figure of last week was the average hourly earnings which came out at +2.9% yoy vs +2.6% expected. So far, wages failed to rise significantly in the US. Higher wages makes investors nervous about a potential surge in inflation and a stronger tightening of the Fed policy.
The equity markets, which had been quite immune to higher bond yields before, experienced a correction last week. There must be no connection with earnings announcements, which continue to be very positive (+15% growth on Eurozone EPS yoy).
So THE major issue is where will bond yields stop rising?
- Regarding the short-term rates, we think market pricing is consistent with current strong pace of macro indicators and what have been announced by various central banks. Unless a radical change in tone happens, we think there is a limited room to reprice central banks further. A radical change in tone seems not plausible to us since it would add more volatility to already volatile markets, and could harm central bank’s credibility which has been lengthily acquired;
- Regarding the long-term rates, the issue is more difficult. The long term disinflationary trends remain valid: demography, high household and government debt burden, higher competition due to internet. On top of that, many insurance companies and pension funds which have long term liabilities should emerge to benefit from higher yields. The markets can continue to get excited, but we think valuations are starting to look more attractive (3.1% for US 5y5y forward yield).
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