Highly-rated government bonds are not only influenced by the economic outlook.
Because of their “haven” status, they can also be affected by sentiment towards other asset classes.
And right now, according to Bank of America Merrill Lynch, US Treasury investors are more sensitive to the latter: “those factors outside of the rates market, such as risk asset pullbacks”.
BoA’s global rates and currency research team looked at option activity in funds that provide exposure to Treasuries, gold, the yen and the S&P 500, creating an index that tracks traders’ preference for risk-off protection, or skew.
The bank found that not only does the indicator spike in risk-off episodes — it hit nearly 2.5 at the height of the financial crisis nearly nine years ago — it also serves, BoA believes, as a good leading indicator for a fall in Treasury yields as safety is sought.
“Treasury rates decline in nearly 71 per cent of the episodes when the skew threshold is triggered. In comparison, this percentage declines to 48 per cent when we look at Treasury yields in the month following S&P 500 declines (a much simpler threshold).”
BoA’s cross-asset skew indicator is currently only about 0.3, and on a three-month rolling basis is in negative territory — sanguine readings that dovetail with the current multi-decade low for the Vix index.
“Given these benign readings, the path of least resistance to yields may continue to be higher,” concludes BoA.
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