While most of the rise is being driven by increased inflation expectations through higher break-even yields, rising bond yields are manageable. During the past few weeks however, the rise in nominal bond yields saw real yields increase faster. This is worrying for the stock market because valuations among many so-called bubble stocks, with strong momentum but no earnings, suddenly look frothy.
A period of risk reduction driven by falling equities and rising volatility may become the catalyst for consolidation across the commodity sector: caution is warranted during that time. We firmly believe that inflation will eventually rise by more than expected, thereby stabilizing, or perhaps even sending real yields deeper into negative territory. However, with many individual commodity positions at elevated levels, and RSI’s pointing towards overbought markets, the prospect for a correction, or at best a consolidation, will probably prove beneficial for medium-term prospects.
Finally, a word on gold, one of the commodities that has suffered the most in recent weeks but which potentially also could be one of the first to benefit from the latest bond yield spike. We have in updates and comments highlighted the risk that gold could suffer until bond yields rose to levels, that could force a response from the US Federal Reserve in terms of introducing measures to prevent longer dated yields from rising further.
During the past few months gold traded lower despite real yield’s staying close to -1%. That, however changed this week when 10-year real yields at one point spike to -0.55% without gold suffering a similar dramatic sell-off. These developments have brought yields and gold back in line. In the short-term, gold remains at risk of a deeper correction should it fail to stay above key support at around $1760/oz.
The copper-gold ratio against US 10-year nominal yields highlight clearly the recent disconnect between rising copper prices indication a return to growth while bond yields stayed low. Under normal circumstances we are now seeing the two get more in line. But these are not normal times and given the risk of a Fed intervening in order to curb yields from rising we could see a major realignment. Primarily from much higher gold prices as real yields would slump as inflation expectations continue to rise.