Columbia Threadneedle: Will the FED raise rates?

Tom Murphy, Senior Portfolio Manager  und Leiter des Bereiches US Investmentgrade Credit bei Columbia Threadneedle Investments: 

Our Fed experts have said there was a 25% chance the Fed raises rates in September and a 50-75% chance it does so in December. There are three Fed meetings between now and the end of the year, and people have focused on September and December because November would be off limits with the US election. The Fed does not want to look political; they very rarely move rates around an election time. As we have seen both in the first quarter and the second quarter, the Fed has invariably used global events as an excuse not to go.  So it’s a higher probability for December. But an awful lot can happen between now and then.  

US Investment Grade credit in demand

In investment grade credit, the concern that popped up again that the Fed might raise rates this month brought some volatility into play. 10-year bond rates had risen 10-12 basis points between the end of August and mid-September, while long-dated rates are up 25 basis points. As investors, we welcome higher rates because it allows us to buy bonds at higher yields. So, we actually would welcome higher rates. But I do not think we will necessarily see high rates because 30% of global sovereign yields are negative. This makes the positive yields on US fixed income very attractive for non-US investors. There are tremendous flows coming in from both Asian and European investors that are trying to escape lower or negative sovereign yields and looking for opportunities to invest in what we think are still solid fundamental companies, for the most part.

With yields in Europe and Asia as low as they are on a relative basis benchmark, US bond yields are unlikely to rise significantly. Massive flows into US dollar denominated securities are likely to keep us from sustaining 10yr US Treasury yields above 2%. Unless global economics really change for the better, the US cannot just do its own thing and have rates just keep on marching higher. Growth would need to improve globally and inflation start to rise for this to happen. I hate to say rates cannot go up 50 basis points, but it just seems unlikely. 

Taper tantrum unlikely

We really need to see a significant change in central bank policy globally in order to hear people say ‘I need to sell my fixed income investments’. I think people have been surprisingly durable or maybe committed to the investment grade asset class. When you get these little bouts of volatility, when US short rates go up or when LIBOR goes up a little bit, you do not see the selling pressure in our market. In fact, you see the slightly higher yields actually attracting money, and we are pretty confident in the level of demand unless you get a very abrupt or shocking change, and on how our central banks are going to set rates.  

Would a rate rise make Treasuries more attractive compared to Bund or Japanese bonds?

As for how this relates to Bund and JGB yields, people do not necessarily like the volatility that we have seen. But we now have much higher yields and much better opportunities to invest for the long term for our clients than we did a couple weeks ago. However, the movement in the Bund two weeks ago was kind of a 5 standard deviation event over 3 days.  We joked about it here on the desk, when yields are close to zero it doesn’t take much to have these massive moves from both a percentage basis and from a historical volatility basis when a) we have low volatility and b) the absolute numbers are so low.