Global stock and bond markets have been impacted by a couple of big themes of late: monetary stimulus overseas and the plunge in oil prices, with both trends creating winners and losers, as I write in my weekly commentary.
Cheaper Oil and its Effects
Oil prices have been trending downward in recent months, and after OPEC took no action to curtail oil output at last Friday’s meeting, prices fell to multi-year lows. This creates additional pressure on energy companies, and could lead U.S. oil exploration and production companies to cut capital spending. Ultimately though, this will only slow production growth, not cut supply. With oil prices stuck and capital spending likely to fall, we would be cautious on both the stock and the credit of explorers and oil servicing companies. However, we do see opportunities in integrated global oil companies given their relatively low valuations and diversified business models.
In addition, cheaper oil is good for some emerging markets. We see the best opportunities in emerging markets Asia, with oil importers India, Indonesia and Thailand all benefiting from lower oil prices.
Bond Yields Continue to Plunge
Central bank activity is having an impact on bond yields, which continue to grind lower. The fall has been most acute in Europe, as German bund yields broke through record lows and the 10-year yield traded around 0.70% last week. Key reasons: speculation that the European Central Bank will expand its asset-purchase program to include sovereign bonds; soft growth; and falling inflation and inflation expectations.
While the drop in yields has been most acute in Europe, the trend is visible in almost every developed country. Part of the cause is slower economic growth, now a global phenomenon. But even in the United States, despite an accelerating economic recovery, a lack of bond supply is keeping downward pressure on long-term yields. The yield on the 30-year bond dipped back below 3% while the yield on the 10-year note fell below 2.2%, the lowest level in a month.
As we’ve discussed previously, U.S. yields are being suppressed by low global yields (which increases demand for the relatively higher U.S. yields) as well as persistent demand from institutions and banks. But a lack of supply relative to demand is also having an impact. JP Morgan estimatesthat in 2015, global demand will outstrip supply by $400 billion thanks to stepped up purchases by central banks in Japan and Europe.
Still, we expect U.S. short-term rates to climb next year as the Federal Reserve initiates hikes in the federal funds rate. That said, the overall rise in yields is likely to be inhibited by: 1) low yields in the rest of the world, which encourage foreign buying of U.S. Treasury securities, and 2) the persistent imbalance between demand and supply. In short, while long-term rates are likely to rise next year they will remain low relative to historical standards.
Russ Koesterich, CFA, is the Chief Investment Strategist for BlackRock and iShares Chief Global Investment Strategist.
This material represents an assessment of the market environment at a specific time and is not intended to be a forecast of future events or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding the funds or any security in particular.
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