Short-Term Money: Rates Call the Tune

Mid Week Bond Update

Short-Term Money: Rates Call the Tune

Liquid assets with short-dated maturities – bank deposits, overnight lending, money-market instruments and the like – flow toward the highest rate of return available...


Liquid assets with short-dated maturities -- bank deposits, overnight lending, money-market instruments and the like -- flow toward the highest rate of return available, for any given level of risk. In the very short term, that flow can pull currencies along for the ride and may be one of the forces driving the dollar up some 5.5% since the beginning of its run-up in mid-April 2018. Deposit rates, earned by local-currency deposits in banking institutions, a consequence of the Fed’s long-promised tightening, are a case in point.


3-Month Deposit Rates (%), 6/6/17 - 6/5/18

Source: Bloomberg, June 5, 2018. Past performance is no guarantee of future results. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.

 

Looking at 3-month deposit rates for major currencies, the fastest-rising, highest-rate option would clearly appear to be in the U.S. Heading toward the U.S. can be a sensible tactic – especially if the currency is providing a powerful tailwind.

A hypothetical example: Swiss-franc money fund managers would be sorely tempted to buy some U.S. dollars to place as deposits in the U.S. – to avoid paying for the privilege of depositing Swiss francs in a negative-rate account; the same goes for euro or yen managers. Of course, it’s never quite as easy as that; there are structural, regulatory and home-country biases in all markets, including currencies. But the siren song of short-term gains can be a powerful incentive.
 

On the Rise: Italian Bond Spreads, yet again

For a few days, it looked like Italy’s sovereign debt market had recovered from initial panic at the latest government’s anti-EU platform. But Prime Minister-designate Giuseppe Conte managed to raise the alarm anew this week in his inaugural speech to the upper house of Italy’s Parliament. Making promises of “radical change” along with a mix of spending, fiscal reform and shifts in immigration policy, the speech succeeded in garnering the majority he needed, 171 – 117, with 25 abstentions.

Italian 10-year sovereign spreads over benchmark 10-year German bunds moved up to 242 basis points as of June 5, after pulling back from its peak of 300.6 on May 29th.

Since the new coalition’s program contains proposals which are both collectivist (universal income) and nativist (new immigration restrictions), it’s an open question whether this coalition of convenience can survive parliamentary votes on any of its programs.

 

Italy-Germany 10-Year Yield Spreads, 5/18/18 - 6/5/18

Source: Bloomberg, June 5, 2018. Past performance is no guarantee of future results. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.

 

On the Slide: Oil prices, with a million-barrel twist

Spot prices for Brent Crude saw a rapid run-up from $63 per barrel (bbl) to $80 between mid-February and late May, as constrained supply met steadily-growing demand. Causes include Venezuela’s rapidly-failing ability to discover, pump and deliver; new trade sanctions on Russia; and the U.S. withdrawal from the multiparty Iran nuclear agreement, which itself could take at least 1 million barrels of daily Iranian crude oil out of global markets.

To meet the challenge of rapidly-rising prices, the U.S. exercised a rarely-used tactic – jawboning -- letting it be known “quietly” that it wants global oil production to rise 1 million bbl/day to slow or reverse the rise in crude oil prices – and therefore gasoline.  Most likely to rise to the occasion is Saudi Arabia, which values its alliance with the U.S. along with their joint stance against Iran.   But the White House was unwilling to make its request explicit, going only as far as allowing an unnamed spokesman to say, "We welcome any market-based action that increases energy access and fosters a healthy global economy."

On June 5, spot Brent Crude fell about 2.4% on the news – before moving back up to its pre-announcement level of about $75.38. It takes time to open the spigots by 1 million barrels per day, even for Saudi Arabia, so the impact of the request, even if it actually takes place, is unlikely to be rapid.

 


All data: Source: Bloomberg, on their specified dates.


Definitions:

A spread is the difference in yield between two different types of fixed income securities with similar maturities.

Bunds” refers to bonds issued by Germany's federal government. Bunds are available in 10- and 30-year maturities.

 

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