Unyielding Yields!

Flight to Safety is driving yields lower in DM bonds and stocks lower in EMs. Markets have moved from under-pricing risks to over-pricing them and thus creating attractive value opportunities for long-term investors.

For all the high decibel sound bytes that surround the Fed and RBI rate actions, reality rarely lives up to the initial hype. Every Fed rate hike cycle had created fears that borrowing costs will shoot up in the system. The recent hike in December was no exception. But, the bond markets on the ground have played a different script. Ten year US treasury yields have fallen by over 70 bps since the time the Fed rate hike was announced in Dec. So much for the market noise that always deafens every Fed event.

Back in India, bond market’s response to RBI’s much hyped rate cuts has been on similar lines. Ten year Gsec yield is back to where it was before the RBI started the rate cutting cycle last year. Below charts on both US and Indian 10 year yields capture the trend brilliantly.

10Yield

Why have the yields become rebellious to central bankers dictum. In normal times, they are more amenable to monetary policy actions. But times are anything but normal now. Markets are on a risk-off mode. Flight to safety is driving funds out from risky (emerging market) assets to safer havens such as German Bunds, US treasuries etc and thus driving yields lower in supposedly safer DM (Developed) markets while depressing bond prices (rising yields) in emerging markets including India.

Markets have moved from under-pricing risks to over-pricing them as it do periodically on unknown fears. Such mispricing creates opportunities both in bond and equity markets for investors who have little longer horizon than few quarters and have built sufficient cash cushions at the top of the markets when risk trade was its peak.

Valuations in equities have turned very attractive for long-term investors. It is time for accelerating the allocations in Indian equities. To say in tennis parlance, when the market throws a short ball, it is time to hit a winner. Or as Buffett says, Swing it hard when it is a fat pitch!!.

Happy Value Investing!!

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