US bond auctions
Roula Khalaf, Editor of the FT, selects her favourite stories in this weekly newsletter.
Like all relationships, correlations can have sticky periods. Some think this might be the start of one for US bond and equity prices too. For most of this decade, there has been an inverse correlation between the two. In other words, bond yields rose as stocks did. This relationship has more or less held during the recession too: bonds rallied as the Federal Reserve slashed interest rates and have fallen again at the first signs of green shoots (although worries about America’s fiscal position and runaway inflation also played their part).
On Tuesday and Wednesday, however, equities and bonds fell together. Whenever this happens investors should pause, as it may suggest weaker demand and rising interest rates lie ahead – the ultimate stagflationary nightmare. A more benign explanation is that the bond market has simply been struggling to digest this week’s $115bn of new government debt – the largest issuance ever.
Wednesday’s auction of five-year notes, for example, drew a yield of 2.69 per cent, about five basis points higher than forecast. The hope is that, as after any big meal, this mild dyspepsia will eventually pass.
The less palatable interpretation is that the world is starting to lose its appetite for US government debt. After all, previous bumper weeks of issuance were well subscribed. With an estimated federal deficit of $1,700bn this fiscal year, equal to more than a 10th of output, and the Fed’s printing presses whirring, there are plenty of reasons to worry. Yet fears the US government is fit to burst would not just bump up yields at this week’s auctions. They should rise right along the curve, especially at the long end. But the price of 10 and 30-year bonds actually moved higher on Wednesday, and all maturities are trading pretty much where they were a fortnight ago. That reflects the mixed nature of the economic data of late – which is why stocks are volatile too. It also suggests, however, that the old relationship between equities and bonds has not been torn apart just yet.
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