What Are the Risks from Higher Yields?



US ten-year yield above 3%

News about the US ten-year Treasury (IEF) breaching 3% has been in the headlines for the last few trading sessions. The 3% yield has been closely watched as this level and has been acting as a strong resistance both technically and psychologically. This critical level was breached on April 24 and is likely to have a strong impact on the global financial markets if the yields continue to move north. In this series, we’ll lay out the risks that could be faced by the global financial markets as the ten-year yields move higher.

Financial assets that could be impacted by higher yields

To begin with, the US ten-year yield is a benchmark for global interest rates on many asset classes. Changes to the ten-year yield impact corporate bonds (JNK), home loans, car loans, emerging market investments (EMLC), and their currencies. The reason that these asset classes would be impacted is that the higher yields on US bonds (AGG) likely make for a safer investment compared a risky investment in other asset classes, which could force the fund managers to increase their allocation in bonds by dumping riskier assets.

Impact of higher allocation for bonds

The search for higher yields, which began after US bond (BND) yields fell to multi-decade lows, gave rise to many investment avenues including equity investments in the US and across the globe, resulting in large cross-border fund flows. The funds could come back to the bonds (BSV) once the yields start moving higher. The impact of this move is already being witnessed in emerging markets as foreign investment in these markets is being pulled out, driving equity prices lower, and devaluing their currencies. In the next part of this series, we’ll look at how rising bond yields pose a threat to equity markets.

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