Why the trend of rising U.S. yields might soften from here

Chart of the week

U.S. yields have moved in line with an improving economy. We don’t expect that rise to continue in the face of a softening economy

10-year U.S. Treasury yields are up by almost 80 basis points so far this year. Some analysts are blaming the rise in yields for the turbulence in stock markets, both in February, and again in October. And surely recent weak housing numbers (September new home sales are close to the 2.5-year low) might have one more driver apart from increased prices: the long end of the yield curve serves as the basis for pricing the majority of U.S. home mortgages. So, having a look at bond yields might not be a bad idea.

Comparing 10-year U.S. Treasury yields with the year-over-year change in the U.S. Leading Index , as published by the Conference Board, our "Chart of the Week" reveals a striking correlation since the start of the decade.

Where will we go from here? In 2018, the U.S. economy is firing on all cylinders. After a whopping annualized growth rate of 4.2% in the second quarter, the Bureau of Economic Analysis reported an initial estimate of 3.5% for the third quarter. That’s no wonder, given the strong stimulus, mainly thanks to the tax reform. Going forward, however, DWS’ U.S. Chief Economist Josh Feinman reminds us that it’s likely as good as it gets. It’s hard to see domestic demand accelerating further from here. And in fact, the faster moving 6-month change of the U.S. leading indicator already points to some deceleration ahead. Hence, notes Bill Chepolis, head of fixed income EMEA, we would not extrapolate the recent spike in yields. We have been noting for some time that short rates, which the U.S. Federal Reserve Board (Fed) has moved up over 200 basis points, may have a significant impact on growth. This can be seen in recent trends in auto sales and production.

Sources: Bloomberg Finance L.P., DWS Investment GmbH as of 11/1/18

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