The question of our time is whether or not present low interest in the west are caused by the relentless Central Bank interventions in capital markets over the past 4 years, or the depressed state of global demand following the bust of the consumer credit bubble in 2007. We are taking our evidence on interest rates as it comes. However our working thesis remains, that rates are low today due to a secular aversion in consumers to taking on more debt after the experience of the credit bust.
History assures us that rates will move up eventually over time as balance sheets heal and risk is repriced, but we see little reason to believe that the rising rate trend is durable just yet. This is especially the case as the world struggles in the midst of the next global growth recession already underway.
There is no question that the benchmark 10 year US Treasury Yield has moved higher again in recent weeks, but as shown below in this long term chart, yields have spiked in the first to second quarter every year for the past 9 years before resuming their secular downtrend, to wit: Mar 19/12, Feb 7/11, Apr 5/10, Jun 8/09, Jun 9/08, Jun 11,07, Jun 19,06, Mar 21/05 and May 10/04. Will this year be different? We watch with great interest.
That said even when interest rates do begin a secular recovery higher (rates cycles tend to move over 25 year periods), that does not mean that there will be no demand for investment worthy debt (as all the stock jockeys insist). It simply means that capital will have incentive to move out of longer securities toward shorter durations that can be rolled over at higher yields as rates begin to rise. There will always be large pools of risk-averse global capital seeking investment quality bonds. Not just insurance companies, endowments, trusts and pensions who need guaranteed maturities and income assets to match liabilities and payouts, but also a world of aging savers who will always need safety of principle and regular income in their later years. At the same time, all of the under-employed young people around the world are not in a position to drive consumption growth through wage increases or credit use. These deflationary waves will take years not months to clear.
Mario Draghi, the head of the European Central Bank takes full credit for the calming influence on European high risk bonds of his “it will be enough” assurances last year, but even he believes that rates are low because of a weak economy, rather than his mystical powers. Now he is on a mission to charm the Germans. Speaking to ZDF television he defended his bond buying plan ahead of a hearing by Germany’s constitutional court. Here is a direct link.