Must-know: Ukraine, Europe, and a flattening Treasury yield curve

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International tensions increase Treasury demand

Economic data was positive for stock. This propelled the S&P 500 Index (SPY) (IVV) to record highs in the week ending August 29. Besides economic data, yields were affected by several other factors. These factors were stronger in determining Treasury yield movements last week.

U.S. Treasuries are considered some of the safest assets in the world. An increase in geopolitical risk overseas increases demand for Treasuries—from domestic and international investors. Ongoing tensions in Russia-Ukraine, Gaza, and Iraq increased Treasury demand last week.

Part 3

Monetary easing in the Eurozone

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Mario Draghi is the head of the European Central Bank (or ECB). He recently commented that the ECB may embark on a bond buying program. The program would be similar to the one that the U.S. Federal Reserve follows. The Eurozone is suffering from high unemployment, low growth, and deflation. Monetary accommodation should stimulate growth and job creation. This decreased European bond yields. As a result, investors “reached for yield” by moving into higher-yielding U.S. Treasuries (IEF) (UST).

Treasury yields impact

As a result of demand-side factors, yields across almost all maturities on the yield curve declined during the week ending August 29. 30-year Treasury (TLT) yields declined the most. They declined by seven basis points to end the week at 3.09%.

Yield curve at its flattest since January 2009

The yield curve’s slope is determined by the difference between five-year and 30-year Treasury yields. The yield curve usually slopes upwards—for example, yields go progressively higher as the maturity increases. When the yield curve flattens or inverts, it’s a strong sign of an imminent or ongoing recession.

Last week, demand-side factors pulled down yields at the long end of the yield curve more than at the short end. This caused the yield curve to flatten. The spread between five-year and 30-year Treasuries fell to 1.44% on Monday, August 25. This is its lowest level since January 2009—the middle of the Great Recession. Demand factors cause the yield curve to flatten—not recessionary expectations.

In the next part of the series, you’ll read about recent trends in the corporate bond market.

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