Weekly review: how high will bond yields go?

Macro Update 1 March 2021
March 2021
Steven Bell

Steven Bell

Managing Director, Portfolio Manager & Chief Economist, Multi Asset Solutions

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Risk Disclaimer

Past performance is not a guide to future performance. The value of investments and any income derived from them can go down as well as up and investors may not get back the original amount invested.

The information, opinions, estimates or forecasts contained in this document were obtained from sources reasonably believed to be reliable and are subject to change at any time.

Key takeaways

How high will bond yields go?

In my monthly webinar last week, I explained why the bull market in equities was likely to continue despite the rise in bond yields. One of the questions I didn’t have time to answer was: ‘how high are bond yields going to go?

I reckon we’ll see 10-year yields rise to 2% on US Treasuries, 1.5% for UK gilts, and zero for German bunds. They are big moves, effectively repeating the rise in yields seen so far this year. But that would still leave real yields at zero in the US and negative in Europe. Hardly huge rates.

A bumpy ride for central banks

But it will be a bumpy ride, as Australia’s central bank has taught us. They celebrated the 1st of March by announcing a big increase in the quantitative easing programme, which saw 10-year yields fall by 25 basis points, one of the biggest one-day moves on record. But all it did was reverse the rise in yields seen over the previous few days – yields are still higher week-on-week. These moves have a big impact on equities, especially the banking sector, which benefits from higher rates, and bond ‘substitutes’ (such as utilities stocks) where the opposite is true.

We’ll be watching closely to see if the US Fed follow the Reserve Bank of Australia, in giving some support to the bond market, especially given the dramatic rise in US mortgage rates. This rise has been so fast that many missed out of refinancing at the super-low yields available at the start of the year.

Dismal progress in vaccine roll out for continental Europe

We also have the UK Chancellor’s big Budget. This update is being produced two days before the Budget and you may well be watching it afterwards so you can judge my forecasts. But the key point for me is that I expect nothing to be done to damage the UK’s economic recovery this year. The ‘stealth taxes’ trailed in the weekend press won’t take effect until next year at the earliest. The Chancellor will be able to boast that the UK economy has outperformed expectations, with higher growth and a lower budget deficit that had seemed likely just a few months ago. He’ll combine higher spending on levelling up inequalities and pursuing the green agenda, with a steep decline in future deficits.

Recruitment difficulties for post-Brexit Britain

But there is a very important issue for UK interest rates and inflation, where I expect the Chancellor to be completely silent: the disappearance of an estimated 1 million non-UK workers since the pandemic started. Most of these workers were in London and many in the hospitality industry. They will not be returning any time soon. An endless supply of workers from the EU has ended of course and the post-Brexit Britain is determined to limited immigration from the rest of the world. Many companies could face recruitment difficulties when they reopen in the next few weeks. They will also pass on some of the extra costs associated with the post-Covid world.

Even with bearish forecasts, bond yields to remain low overall

Rising bond yields are a headwind for equities, which have so far been supported by ultra-low yields. But even if my bearish forecasts are correct, bond yields will still be low overall. 

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