We expect short-term volatility but the threat of financial contagion via the banking system in Europe is much lower than in 2011/12 and we’re unlikely to see a severe longer-term impact on global markets.
Although the recent bond market sell-off may remind the market of 2003, we don’t believe US bonds will be as badly affected. By comparing the worst US bond sell-offs since 2003, we estimate that the 10-year US Treasury yield could hit a high of 2.8-3.2% by October.
Real yields and inflation expectations currently suggest exceptionally low growth and low inflation far out into the future.
We do not expect the recent steepening of the bund yield curve to be the beginning of a sustained new trend. Moreover, Eurozone and German economic data, albeit improving, are not sufficient to support the higher bund yields on a sustained basis.
Since the Fed starting hinting at the normalization of interest rates a year ago, Asian central banks' foreign reserve accumulations - except for India and Hong Kong - have either incurred substantial losses or remained flat.
With many markets having rallied from major support levels when they were in highly oversold positions, we believe that bond markets should stabilise or rally from current levels.
Oil-producing countries have seen the largest drop in their foreign exchange (FX) holdings over the last year. In our view, Saudi Arabia can afford to handle oil prices at their current level for some time but ...
Interest rate and foreign exchange volatility has begun to increase as the market anticipates the time when the US Federal Reserve will start to reduce monetary accommodation and raise interest rates.
Coupled with our expectation for global bond yields to rise moderately, we maintain our overweight view on global equities vs. bonds.
In 2015, markets will be looking for any pick up in European and Japanese inflation as a result of their QE programmes. With growth picking up, we may start to see signs of a rise in US inflation.