Bond yields rose on news of Donald Trump’s election win on November 8, in expectation of increased government spending.
We believe higher inflation and interest rates are likely over the longer term, but the potential for protectionist trade policies and a stronger dollar could offset the effects of increased growth and inflation.
We believe the likelihood of a Federal Reserve rate hike in December has diminished due to heightened market volatility, but market indicators suggest that a rate hike is expected.
We suggest investors continue to maintain a short-to-intermediate duration portfolio with a focus on high credit-quality bonds.
Change seems to be in the air. Bond yields surged as the outcome of the election became clear, with the 10-year Treasury yield jumping from 1.72% to above 2%, according to Bloomberg. The idea that a Donald Trump administration would adopt an expansive new fiscal policy appeared to add to growth and inflation expectations. Could that give the Federal Reserve room to continue raising rates?
This would fit with the broader narrative of policy change we’ve been expecting in recent months, as central banks have shifted their focus from monetary policy to fiscal policy to drive economic growth. After eight years of central banks pushing interest rates down and suppressing long-term bond yields, we view this as a game-changer for the bond markets. Central banks from Japan to Europe have been pulling back on negative interest rates and ever-expanding quantitative easing programs since last summer in the face of diminishing returns and a public backlash.
But a few caveats are in order, at least on the home front. While we believe that higher inflation and interest rates are likely in the longer term, the near term outlook is more uncertain. The potential for protectionist trade policies, a stronger dollar and caution from the Fed could be limiting factors for bond yields.
Steepening curve
As you can see below, bond yields have edged higher around the globe since this summer, which has caused yield curves (the difference between short and long-term yields) to steepen.
Bond yields have moved up since early July in G8 countries