Sine of the Times

Global CIO Commentary by Scott Minerd

For the past 30 years, 10-year U.S. Treasury yields have shown a clear downward linear trend, falling from over 10 percent in 1985 to less than 2 percent today. Around this linear trend, yields have also exhibited a fairly consistent cyclical fluctuation, with the size of the fluctuation about 200 basis points from peak to trough, and with the cycle repeating every six years. This fluctuation can be thought of as a sine function, allowing us to model 10-year yields by combining the sine function with the linear trend (see Chart).

If we assume the secular, linear downward trend in yields will continue in the near term, we can predict the short-term outlook based on the model of cyclical fluctuations. This model currently shows that rates are just beginning to undershoot the linear trend, with the model predicting that rates will bottom at 0.82 percent in March 2016. What’s even more interesting is that the average actual bottom in rates has been 73 basis points lower than the model predicts, which would put rates at just 0.09 percent.

Now, I am not necessarily predicting that U.S. 10-year Treasury yields will test zero like its counterpart the German 10-year bund, which currently stands at around 16 basis points and I believe could provide negative yields at some point. What I am saying is that there are many powerful secular and fundamental forces at work that signal the risk to U.S. interest rates remains to the downside.

With Federal Reserve tightening drawing closer, the continuation of this downward trend could be called into question. However, a number of factors, including lower first quarter gross domestic product (GDP) growth, high demand from overseas investors (with yields approaching negative territory in much of Europe), and expectations of a slow liftoff by the Fed, are working to exert downward pressure on U.S. yields, thus limiting any upside in rates in the near term. The prospect of a stronger dollar as a result of upcoming U.S. rate hikes only serves to heighten foreign demand for U.S. Treasuries. International investors are likely to seek to preempt Fed action and invest while their currency has greater relative strength. Betting against the downward trend in U.S. rates has proved to be a widow-maker trade for many years—and with fundamental and technical factors pointing to downside risks in rates in the near term, there appear to be few reasons to bet against the trend now.

Economic Data Releases

Existing Home Sales Are Up While New Home Sales Fall

• Existing home sales rose 6.1 percent in March to an annualized pace of 5.19 million homes. The one-month change was the best since 2010.
• New home sales fell 11.4 percent in March to 481,000 homes, down from a seven-year high.
• The FHFA House Price Index rose more than expected in February, up 0.7 percent.
• Initial jobless claims inched up to 295,000 from 294,000 for the week ending April 18.
• Durable goods orders rose 4.0 percent in March, mostly due to surging aircraft and defense orders. The less volatile nondefense capital goods orders excluding aircraft fell for a seventh consecutive month, down 0.5 percent.

Euro Zone PMIs Miss Expectations

• The euro zone manufacturing Purchasing Managers Index fell for the first time in five months in April, to 51.9. The services PMI declined to 53.7 from 54.2.
• Euro zone consumer prices fell to -4.6 in May from -3.7, snapping a string of four consecutive increases.
• Germany’s manufacturing PMI unexpectedly fell in April, to 51.9 from 52.8. The services PMI also fell.
• Germany’s ZEW survey was mixed in April, with the current situation index jumping to 70.2 from 55.1, while the expectations declined to 53.3 from 54.8.
• Germany’s IFO Business Climate Index for April was slightly higher than forecast, reaching the highest level since June at 108.6. The expectations component was lower.
• PMIs in France disappointed in April, with the manufacturing PMI falling to 48.4 and the services PMI down to 50.8.
• U.K. retail sales unexpectedly fell in March for the first time in seven months to 0.5 percent.
• China’s HSBC manufacturing PMI fell further into contraction in April, down to 49.2 from 49.6.
• Exports in Japan were in line with expectations in March, up 8.5 percent from a year ago.

VIDEOS AND PODCASTS

 

2022’s Upside: The Fed Has Put the Income Back in Fixed Income

Anne Walsh, Chief Investment Officer for Fixed Income at Guggenheim Investments, joined Asset TV to discuss macroeconomic conditions, risk, and relative value in the bond market.

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2022’s Upside: The Fed Has Put the Income Back in Fixed Income

 

Macro Markets Podcast Episode 26: Mortgage-Backed Securities, Structured Credit, Market Liquidity

Karthik Narayanan, Head of Securitized for Guggenheim Investments, discusses value in the residential mortgage-backed securities market and other ABS sectors. Anne Walsh, Chief Investment Officer for Fixed Income, answers a listener question on liquidity. Jerry Cai, an economist in our Macroeconomic and Investment Research Group, brings the latest on the labor picture and an update on China.

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Macro Markets Podcast: Episode #26