Intense selling pressure on long-dated government bonds continued last month. In certain cases, bond markets are reacting to the prospect of looser fiscal policies (e.g., Italy, Mexico). Japan is readying a fresh stimulus package too, as the yen continues to weaken. Japanese swap rates are sniffing out a significant shift in BoJ policy. This will give another jolt to long-dated government bonds.
Real yields are surging in the US: 2.5% is now within reach for 10 & 30-year TIPS yields. The market reaction to last month’s payrolls, CPI, and PCE reports, has been telling. If the FOMC opts for one more rate hike, and holds, the bond market will do the rest of the tightening. Long bonds are also concerned about perpetual (large) fiscal deficits, political gridlock in Washington, the possibility of a second Trump term, and climate change. Trump, for now, has no formidable challenger for the Republican nomination.
The transition to greener, renewable sources of energy will not be smooth, with OPEC+ ‘back in charge’ of oil markets. This latest increase in oil prices is a stark reminder. The jump in interest rates has raised the cost of capital for offshore wind, imperilling many projects, and the US and the UK’s green energy targets. If the green energy transition runs into speedbumps, this will simply introduce more volatility into energy markets. More politicians may go the way of the UK prime minister, who announced exemptions and delays to several key green policies.
Ordinarily, higher oil prices would act as a dampener on US growth. But the US is now a net exporter of energy. The historical correlation between the dollar and oil prices has been upended, and they have been rising in tandem. The dollar index rose 3.2% in Q3. The S&P 500 declined 4.9% in September, but the stock market has become more expensive, given the rise in real yields. Energy was the best performer in the S&P 500 last month, up 2.5%. Real estate (-7.8%) and information technology (-6.9%) underperformed.
