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How Bond Markets Reacted to North Korea’s Missile Launch

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US bond yields continued to drop

US bond markets were the center of attention last week as central bankers’ comments at Jackson Hole could have induced volatility in the bond markets. That volatility, however, was not the case. Fed Chair Yellen gave no clues about future rate hikes and left the chances for rate hikes below a 40% probability.

Volatility (VXX) in the bond markets resurfaced after North Korea launched a missile that flew over northern Japan and landed in the Pacific Ocean. Risk aversion led to demand for safe havens, including US Treasuries.

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Bond market reaction to North Korea missile launch

The US ten-year bond yield fell to 2.136 at the close of markets on August 29, compared to 2.159 on the previous day. The US 30-year yield dropped to 2.742 from 2.756 as demand for US government (GOVT) bonds rose amid heightened risk aversion. In times of geopolitical tensions, demand for longer-maturity (TLT) bonds increases more than short-term bonds (SHY) as long-term bonds offer safety for an extended period.

Outlook for bond markets

As of August 30, markets seem to be ignoring geopolitical risks from North Korea. If there’s no further escalation of the conflict with North Korea, we can expect bond yields to remain stable. For bond markets, however, there are other implications that could drag bond (BND) yields lower. Expectations for further tightening from the US Fed have receded further after the Jackson Hole Symposium and the recent natural disaster, Hurricane Harvey in Texas, could also slow economic progress in the region, leading to a further delay in tightening from the US Fed.

Overall, US bond yields are likely to remain lower in the near term despite a fall in risk aversion. In the next part of this series, we’ll explain the changing dynamics of safe-haven currencies in the forex markets.

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