by
Alen Golubovic | Sep 23, 2014
US Treasury bond yields
The upward shift in the US Treasury yield curve is reflected in the chart below:
Overall, US bond yields are up about 12-17 basis points between to 3 year and 30 year points on the curve. While the 10 year Treasury bond yield is up 16 basis points over the month , the difference in yield between 5 year and 30 year Treasury bonds has slightly decreased, as the Federal Reserve signalled that it will raise short-term interest rates while inflation remains below expectations.
Last week, the Federal Reserve raised their median estimates for the federal funds rate (which is the US equivalent to the cash rate) to be 1.375% versus 1.125% in June. The end 2016 estimate was pushed up to 2.875% from 2.50%, while the end 2017 estimate was moved up to 3.75%. These higher estimates contributed to the increase in US Treasury yields, particularly at the short end of the curve.
While US Treasury yields have risen this month, the US dollar climbed to its highest level since 2010 against a broad range of currencies. That’s transformed losses into gains for most foreign bond holders who have invested in US dollar bonds. The US currency has appreciated so much that US Treasuries held by foreign investors were the developed world’s best performing sovereign debt this quarter for investors based in currencies outside of the US.
Australian government bond yields
Meanwhile, the Australian bond yield curve has shifted higher over the past month. The 10 year Australian Government bond yield is up 19 basis points compared to a month ago. The longer end of the curve has seen marginally higher increases in yields versus the shorter end. This is reflected in the chart below:
Implications for fixed income portfolios
Corporate bond investors have seen their returns impacted over the past month by these increases in sovereign bond yields. However, Australian bond investors who have invested in US dollar bonds would have seen their returns on the US dollar portfolio protected by the appreciation in the US dollar.
For those who want to protect their fixed income returns against further increases in global bond yields, we would suggest an allocation to shorter duration US dollar bonds. The strengthening of US dollar can provide protection against rising bond yields for foreign investors in US dollar bonds, while the shorter duration can limit capital losses when bond yields rise.
For investors who are concerned about the risk of an increase in interest rates in the shorter term, an increased allocation to floating rate bonds would be appropriate strategy. Floating rate bonds pass through any increases in short term interest rates by paying a higher floating rate component in their overall return.
Alternatively, you may be of the view that Australia is in a sustained period of low economic growth but high inflation, which will continue to keep bond yields low in the coming years. If you believe this scenario, then buying inflation protection would be one appropriate course of action through an allocation of Australian inflation linked bonds.
Whichever your perspective, the yield curve movements represent an opportunity to discuss and revisit your bond portfolio with your FIIG representative and form an appropriate strategy based on that interest rate / yield outlook. FIIG Securities offers a range of different bonds, including US dollar, floating rate and inflation linked bonds to suit your overall investment strategy.
Note at the time of writing bond yields have fallen 5 – 10 bps from those in the charts above.
Copyright The contents of this document are copyright. Other than under the Copyright Act 1968 (Cth), no part of it may be reproduced or distributed to a third party without FIIG’s prior written permission other than to the recipient’s accountants, tax advisors and lawyers for the purpose of the recipient obtaining advice prior to making any investment decision. FIIG asserts all of its intellectual property rights in relation to this document and reserves its rights to prosecute for breaches of those rights.
Disclaimer Certain statements contained in the information may be statements of future expectations and other forward-looking statements. These statements involve subjective judgement and analysis and may be based on third party sources and are subject to significant known and unknown uncertainties, risks and contingencies outside the control of the company which may cause actual results to vary materially from those expressed or implied by these forward looking statements. Forward-looking statements contained in the information regarding past trends or activities should not be taken as a representation that such trends or activities will continue in the future. You should not place undue reliance on forward-looking statements, which speak only as of the date of this report. Opinions expressed are present opinions only and are subject to change without further notice.
No representation or warranty is given as to the accuracy or completeness of the information contained herein. There is no obligation to update, modify or amend the information or to otherwise notify the recipient if information, opinion, projection, forward-looking statement, forecast or estimate set forth herein, changes or subsequently becomes inaccurate.
FIIG shall not have any liability, contingent or otherwise, to any user of the information or to third parties, or any responsibility whatsoever, for the correctness, quality, accuracy, timeliness, pricing, reliability, performance or completeness of the information. In no event will FIIG be liable for any special, indirect, incidental or consequential damages which may be incurred or experienced on account of the user using information even if it has been advised of the possibility of such damages.
FIIG provides general financial product advice only. As a result, this document, and any information or advice, has been provided by FIIG without taking account of your objectives, financial situation and needs. Because of this, you should, before acting on any advice from FIIG, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If this document, or any advice, relates to the acquisition, or possible acquisition, of a particular financial product, you should obtain a product disclosure statement relating to the product and consider the statement before making any decision about whether to acquire the product. Neither FIIG, nor any of its directors, authorised representatives, employees, or agents, makes any representation or warranty as to the reliability, accuracy, or completeness, of this document or any advice. Nor do they accept any liability or responsibility arising in any way (including negligence) for errors in, or omissions from, this document or advice. Any reference to credit ratings of companies, entities or financial products must only be relied upon by a ‘wholesale client’ as that term is defined in section 761G of the Corporations Act 2001 (Cth). FIIG strongly recommends that you seek independent accounting, financial, taxation, and legal advice, tailored to your specific objectives, financial situation or needs, prior to making any investment decision. FIIG does not make a market in the securities or products that may be referred to in this document. A copy of FIIG’s current Financial Services Guide is available at www.fiig.com.au/fsg.
An investment in notes or corporate bonds should not be compared to a bank deposit. Notes and corporate bonds have a greater risk of loss of some or all of an investor’s capital when compared to bank deposits. Past performance of any product described on any communication from FIIG is not a reliable indication of future performance. Forecasts contained in this document are predictive in character and based on assumptions such as a 2.5% p.a. assumed rate of inflation, foreign exchange rates or forward interest rate curves generally available at the time and no reliance should be placed on the accuracy of any forecast information. The actual results may differ substantially from the forecasts and are subject to change without further notice. FIIG is not licensed to provide foreign exchange hedging or deal in foreign exchange contracts services. The information in this document is strictly confidential. If you are not the intended recipient of the information contained in this document, you may not disclose or use the information in any way. No liability is accepted for any unauthorised use of the information contained in this document. FIIG is the owner of the copyright material in this document unless otherwise specified.
The FIIG research analyst certifies that any views expressed in this document accurately reflect their views about the companies and financial products referred to in this document and that their remuneration is not directly or indirectly related to the views of the research analyst. This document is not available for distribution outside Australia and New Zealand and may not be passed on to any third party without the prior written consent of FIIG. FIIG, its directors and employees and related parties may have an interest in the company and any securities issued by the company and earn fees or revenue in relation to dealing in those securities.