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Why Global Demand for US Treasuries Could Keep Yields Low

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Price insensitive bond buyers – The Fed officially ended its quantitative easing (or QE) program in October 2014, which removes a large buyer from the market. Central banks globally, such as the Bank of Japan (or BoJ) and European Central Bank (or ECB), will be conducting their own versions of QE in 2015. While they won’t be buying U.S. bonds, the purchase of their own bonds will drive down rates in their local markets. Higher U.S. yields relative to these other markets should contribute to continued foreign demand for U.S. bonds as global investors seek out higher U.S. yields. Thus quantitative easing, this time by foreign central banks, will continue to exert downward pressure on U.S interest rates.

Global demand for US Treasuries could persist for the rest of the year.

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Market Realist – Global demand for US Treasuries could persist for the rest of the year.

Major developed markets (EFA) outside the US have seen poor growth or recession a number of times since the financial crisis. Europe (EZU)(VGK) and Japan (EWJ) in particular have seen disinflationary environments recently. This environment led to their respective central banks, the European Central Bank and the Bank of Japan, extending their quantitative easing programs, just like the Fed had done in the US.

As we explained earlier, this move has led to a dip in government bond yields in Germany as well as Japan. The graph above compares the yield on the ten-year US Treasury (IEF) with the yield on the ten-year German bund and the yield on ten-year Japanese government bonds.

As you can see, both the German bund and the Japanese bond are yielding below 1%, at 0.4%. This is well below the 2.1% on ten-year US Treasuries. Since US Treasuries are considered very safe, this difference is attractive to foreigners relative to German and Japanese bonds. With the quantitative easing programs in those countries bound to keep yields low at least until 2016, US Treasuries are bound to find global demand.

So, any rise in Treasury yields will be offset by this demand. This means US Treasury yields are bound to remain low in 2015 as well.

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