/perspectives/global-cio-outlook/normalize-to-what

Normalize to What?

Despite a disconcerting, growing consensus among investors, the likelihood of a sudden increase in U.S. interest rates is fairly remote for now.

July 29, 2014    |    By Scott Minerd

Global CIO Commentary by Scott Minerd

Recently, as I listen to the growing chorus of investors claiming that U.S. Treasury yields are poised to rise and return to their historical norm, I am reminded of a Keynesian sentiment about the problem with long-term thinking. Last week, for example, I was at a meeting of prominent investors where nearly everyone held the view that rates must normalize. I sat there listening, and thought, "Normalize to what?" As my fellow investors shared forecasts for forward rates and everything else, at one point I remarked that people are flattering the Federal Reserve, giving it too much credit for why long-term interest rates are where they are today.

#Fed says it will keep rates low even after employment & inflation meet targets. That says it all!

ScottMinerd

What I mean by this is that when I look around the world and consider what is going on, it is hard to argue that U.S. 10-year Treasuries with yields hovering near 2.5 percent are unattractive compared to 10-year Japanese government bonds yielding close to 50 basis points. German 10-year bunds are yielding a historic low of just over 1 percent with the Treasury/bund spread as wide as ever. Even in troubled Spain, benchmark borrowing costs in recent days have at times dipped below 2.5 percent -- their lowest yield since 1789. Add to that the perception that both the yen and euro are seemingly a one-way bet toward depreciation and it is reasonable to expect that international capital will continue flowing toward the United States, pressuring U.S. Treasury yields down as quantitative easing draws to an end.

Most investors can agree that loose monetary policy and quantitative easing have caused overvaluation in some spheres of U.S. credit. Even Federal Reserve Chair Janet Yellen has said that some leveraged credit is showing signs of frothiness. But the palpable fear that the Fed’s eventual hiking of short-term interest rates will prompt a general upward shock in interest rates and an abrupt repricing of credit risk and U.S. Treasuries is getting overplayed and too much attention. The reality is that with international demand for U.S. Treasuries likely to increase and the size of incremental U.S. government borrowing expected to decline because of shrinking federal budget deficits, U.S. Treasury yields could move lower.

The likelihood that we are going to have a sudden, ugly increase in interest rates seems fairly remote for now. As for the long-run, well, the consensus view of interest rates normalizing will eventually come true. The problem with that thinking may lie in the definition of "long-run." As John Maynard Keynes wrote in "A Tract on Monetary Reform" in 1923, "In the long-run we are all dead."

History Suggests U.S. Treasury-Bund Spread May Tighten

It is hard to argue that U.S. Treasuries are overvalued with yields around 2.5 percent compared to German 10-year bunds yielding near historic lows just above 1 percent. The spread between Treasuries and German bund yields, at 138 basis points, is rapidly approaching record levels. The last two times the spread was so wide it soon reversed course. Unless bund yields head higher, unlikely given accommodative ECB monetary policy, Treasury yields could fall in the near term.

SPREAD BETWEEN U.S. 10-YEAR TREASURY YIELD AND GERMAN 10-YEAR BUND YIELD

SPREAD BETWEEN U.S. 10-YEAR TREASURY YIELD AND GERMAN 10-YEAR BUND YIELD

Source: Bloomberg, Guggenheim Investments. Data as of 7/30/2014.

Economic Data Releases

U.S. GDP Bounces Back in Second Quarter

  • Second-quarter GDP rebounded 4.0 percent at an annualized rate, following the first quarter’s revised 2.1 percent fall. Consumer spending on durable goods was strong and business investment rose 5.9 percent.
  • New home sales fell more than expected in June, down to 406,000 from a sharply revised 442,000 in May.
  • Pending home sales unexpectedly declined in June, falling 1.1 percent after three months of increases.
  • The S&P/Case-Shiller 20-city home price index continued to show slower growth in May, decreasing to 9.3 percent year over year from 10.8 percent, the slowest since February 2013.
  • Durable goods orders were better than expected in June, up 0.7 percent after falling by 1.0 percent in May. Non-defense capital goods orders rose a strong 1.4 percent.
  • The Conference Board’s consumer confidence index rose for a third straight month in July, increasing to 90.9, the highest level since 2007.
  • Initial jobless claims dropped to 284,000 for the week ended July 19, the lowest level since the current expansion began.

Euro Zone and China PMIs Expand

  • The euro zone manufacturing PMI ticked up in July to 51.9 from 51.8, with the services PMI reaching the highest level since May 2011.
  • Euro zone economic confidence inched up in July to 102.2 from 102.1.
  • The manufacturing PMI in Germany was stronger than expected in July at 52.9. The services PMI reached a three-year high.
  • Germany’s IFO Business Climate index dropped for the third month in a row, falling to 108.0 from 109.7, with both the current assessment and expectations down.
  • France’s manufacturing PMI fell for a fourth straight month in July to 47.6. The services PMI returned to expansionary territory after contracting for two months.
  • U.K. second-quarter GDP expanded at 0.8 percent, meeting expectations.
  • China’s HSBC manufacturing PMI showed the fastest pace of expansion in July since January 2013, rising to 52.0.
  • Japan’s CPI slowed slightly in June, decreasing year over year to 3.6 percent from 3.7 percent. Prices excluding food and energy ticked up to 2.3 percent.
  • Industrial production in Japan dropped 3.3 percent in June, the most since the 2011 earthquake.

FEATURED PERSPECTIVES

July 17, 2018

No One Wins a Trade War

If you want to see who the real victims of tariffs are, go look in the mirror.

May 16, 2018

Positioned for Choppier Waters

After several quarters of low volatility, tight spreads, and abundant liquidity, financial conditions are shifting.

May 09, 2018

Forecasting the Next Recession: Updating Our Outlook for Recession Timing

New developments in fiscal policy, the labor market, and the neutral interest rate suggest that the expansion could extend into the latter half of our recession range.


VIDEO

Forecasting the Next Recession 

Forecating the Next Recession

Global CIO Scott Minerd and Head of Macroeconomic and Investment Research Brian Smedley provide context and commentary to complement our recent publication, “Forecasting the Next Recession.”

Macro Themes to Watch in 2018 

Macro Themes to Watch in 2018

In his market outlook, Global CIO Scott Minerd discusses the challenges of managing in a market melt up and highlights several charts from his recent piece, “10 Macro Themes to Watch in 2018.”







Read a prospectus and summary prospectus (if available) carefully before investing. It contains the investment objective, risks charges, expenses and the other information, which should be considered carefully before investing. To obtain a prospectus and summary prospectus (if available) click here or call 800.820.0888.

Investing involves risk, including the possible loss of principal.

Guggenheim Investments represents the investment management businesses of Guggenheim Partners, LLC ("Guggenheim"), which includes Security Investors, LLC ("SI"), Guggenheim Funds Investment Advisors, LLC, ("GFIA") and Guggenheim Partners Investment Management ("GPIM") the investment advisers to the referenced funds. Securities offered through Guggenheim Funds Distributors, LLC, an affiliate of Guggenheim, SI, GFIA and GPIM.

© Guggenheim Investments. All rights reserved.

Research our firm with FINRA Broker Check.

• Not FDIC Insured • No Bank Guarantee • May Lose Value

This website is directed to and intended for use by citizens or residents of the United States of America only. The material provided on this website is not intended as a recommendation or as investment advice of any kind, including in connection with rollovers, transfers, and distributions. Such material is not provided in a fiduciary capacity, may not be relied upon for or in connection with the making of investment decisions, and does not constitute a solicitation of an offer to buy or sell securities. All content has been provided for informational or educational purposes only and is not intended to be and should not be construed as legal or tax advice and/or a legal opinion. Always consult a financial, tax and/or legal professional regarding your specific situation. Investing involves risk, including the possible loss of principal.