Higher bond rates worry shares
Sharebroker Goldman Sachs JB Were is warning that if bond rates continue to increase it will be harder for the sharemarket to perform.
Wednesday, May 2nd 2007, 7:31AM
“However, this has not been the case recently, with a negative correlation prevailing between bonds and equities since 2004. In other words, New Zealand equities have thrived in an environment of modestly rising yields.”
“We believe this situation will become progressively more difficult to sustain if bond yields move much higher than current levels. The further bond yields move above 6%, the more likely it becomes that markets interpret rising interest rates as reflecting entrenched inflation, rather than rebounding growth.
"Our base case is that yields stabilise around current levels before declining as monetary easing kicks in. However, we also recognise the risk that persistent inflationary pressure pushes bond yields higher still, creating a negative spill-over for equities.
Doyle says that since November 10 year yields have risen 40 basis points to 6.10%, and in the United States yields have risen 130bps since mid-2003.
While the general school of thought is that rising bond yields are negative for equities, research shows the link between equity and bond returns has proven quite unstable, both in New Zealand and elsewhere.
Since 1994, the correlation between bond returns versus equity returns has swung from positive to negative. In other words, prior to 2000, rising bond yields (ie: falling bond prices) were generally associated with negative equity returns.
However since 2000, the relationship has been either very weak, or latterly, negative. That is, since 2004, rising bond yields have been more likely accompanied by positive equity returns, GSJBW says in its note.
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