Julius Baer Research | Let us start with the notion that the second half of the year is dominated by political factors, as growth is stabilising on a global scale and the ghost of deflation banned for good. Political events are known unknowns, as the unpredicted outcome of both the Brexit vote in the UK and the US presidential election show. The next known unknown on the agenda is the Italian referendum on 4 December. The market focus seems to be shifting on to this event, and after the experience mentioned above, positions are taken for an unfriendly outcome. Indeed, yield on the 10-year Italian government bonds has risen from 1.6% at the beginning of the year and an all-time low of 1.04% in September to 1.96%. Market fears that the Italian referendum will trigger a Brexit-like turmoil, however, are greatly exaggerated in our view.
In case of a rejection, we simply do not see the same anti-EU message being spread as it was the case after the Brexit vote. Second, and with all respect to the Italian voters, it will not change the course of the European Central Bank, despite ECB President Mario Draghi being Italian by nationality.
The ECB continues to buy EUR 80 billion of government debt, corporate debt and covered bonds per month until March 2017 at least. This will not only be an anchor for yields in the eurozone, but globally. Decisive for bonds are – like for equities – the marginal buyers. And there are three countries with large current account surpluses: China, Japan and Germany. As long as the latter two have central banks that keep yields down, there will be demand for US bonds, which limits the upside potential for USD yields.
In this sense, Europe is not the next eye of the storm, but the anchor for stability on global bond markets, and in the short-and medium term, the ECB’s next move is more important than the Fed’s for bond investors globally.
We see a consolidation of bond yields in the US thanks to the cap of yields in Europe.