What stands out about the mass sale of bonds over the last seven months – and the last five years – is that it has been exclusively due to real rates, and not to inflation (breakevens or equilibrium rates). This year, another supply crisis (Iran) and resilient global growth have led to a strong revaluation of central bank trajectories and neutral rates. We are starting to see value in the middle part of the curves, with implied five-year interest rates close to 4.75% in US dollars (USD) and 3.40% in euros (EUR).
We remain more cautious with long maturities, especially in the US, despite real and nominal yields starting to look attractive (chart). We fear that term premiums will continue to rise, due to high public deficits and the Fed's lack of determination to address a disastrous inflation record (over the last six years). The “fight for capital” continues. It could be said that the borrowing of investment funds slowed down in September, but other signs suggest that this is not yet the capital expenditure exhaustion that would radically change our outlook on duration.
We maintain a constructive view on equities, as valuations have been lowered (chart) ahead of what we expect to be another spectacular earnings season. However, the correlation between US Treasury bond (UST) prices and the S&P has been positive over the last 52 weeks (+0.31), as well as over the last 30 days (+0.64), which corroborates our assertion that the benefits of diversification are lower when real yields are at higher levels. This makes coverage even more essential, especially with such low levels of equity volatility.
