Monday, 27 June 2011

US Treasury yields in a downtrend

US Treasuries rose last week, pushing yields down as sovereign debt concerns in Europe and a slowing economy drove investors away from riskier assets.

The two-year Treasury note gained for an 11th straight week last week, pushing its yield down to a low of 0.32 percent according to Bloomberg, the lowest level since hitting a record low of 0.3118 percent on 4 November.

The 10-year note also gained last week, pushing its yield down to a low of 2.85 percent, the lowest level since 1 December.

Prices of US Treasuries rose amid concern that European leaders would fail to extend loans to Greece.

Some of the concern on the Greek front, though, was alleviated last week as the government won a confidence vote in Parliament and European leaders endorsed its austerity plan.

However, the threat of default and contagion in Europe was kept at the forefront of investors' minds by an announcement by Moody’s Investors Service last week that it may downgrade the ratings of 13 Italian banks that it deemed vulnerable to a cut in the government’s credit rating.

Also helping to boost Treasury prices last week were further signs that the US and other major economies are slowing.

Sales of new and existing homes in the US both fell in May by 2.1 and 3.8 percent respectively. The Chicago Fed National Activity Index increased to -0.37 in May from -0.56 in April but the three-month moving average fell to -0.19 from -0.15.

In the euro area, a flash estimate of purchasing managers indices from Markit Economics also showed slowing growth. The composite index fell to 53.6 in June from 55.8 in May, with the manufacturing index falling to 52.0 from 54.6 and the services index falling to 54.2 from 56.0.

Even China does not appear to be escaping the slowdown. A flash estimate showed that its manufacturing PMI fell from 51.6 in May to 50.1 in June, indicating hardly any growth.

Another factor in the direction of Treasury prices last week was the Federal Reserve's monetary policy meeting. Here, the impact was mixed.

Fed Chairman Ben Bernanke essentially ruled out another round of quantitative easing. He said at the press conference after the meeting that today, unlike last year when he introduced the securities purchase programme that is now widely called QE2, deflation is no longer a risk. As for the economic slowdown, he said that the economy is expected to pick up pace once some of the temporary factors like high gasoline prices and the effects of the Japanese earthquake dissipate.

However, the Fed also made no suggestion that it was about to remove policy accommodation. In fact, in its statement following the monetary policy meeting, the Fed again mentioned that the federal funds rate are likely to stay exceptionally low for "an extended period" and that it "will maintain its existing policy of reinvesting principal payments from its securities holdings".

With Fed monetary policy set to remain accommodative, Treasury yields are likely to stay low for quite a while longer.

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