Most releases, such as the PMIs for Services released this week, continued to support the case for economic expansion. Yet markets were more influenced by the roller coaster views of the fate of Greece’s sovereign debt crisis. Other than for Greek bonds, financial conditions remained strong with corporate bond spreads remaining low. Equity markets were a touch higher; U.S. Treasury bonds rallied, but government bonds traded lower elsewhere. Oil reached a new recent high, but traded lower to close under $85 per barrel.


Over 15 years of yield history are shown in the graph in the link below for U.S. Treasury two-year notes (red), 10-year notes (blue) and 30-year bonds (green). The graph shows that the two-year yield changes more than the 10-year and 30-year. You can also see that the 30-year yield is most often higher than the 10- and two-year yields. This is a normal, upward sloping “positive” yield curve. The spread between the yields shows the steepness of the curve; the bigger the spread, the steeper the curve. Currently the spread between 2s and 30s is as steep as it has been (4.7417-1.0603=3.6814). This additional yield is what investors are now offered to go out on the curve. Notice that in 2003 the spread was also wide. In the period following 2003, two-year yields rose while 10-year and 30-year yields remained in a narrow lower-trending range.

Over the last year, the yields and spreads of the 10- and 30-year bonds have been driven up by expectations of higher inflation and rising rates. Many investors have reduced their portfolio duration to protect it from the negative effect of rising interest rates. If the experience of 2003 is repeated in 2010, the strategy of lower duration may be counter-productive going forward. In a rising interest rate environment with short-term rates rising more that long-term rates, a “barbell” distribution in the portfolio (cash and long bonds) will do better than a “bullet” portfolio (concentrated maturity) of equal duration. Merely shortening duration may not produce the desired protection.


Sources: Bloomberg LP

Economic releases

The U.S. Purchasing Managers’ Index of Services rose over 2 points to 55.4, following the pattern of the other March PMIs forging deeper into the expansion zone above 50. February pending home sales rose 8.2 percent, another sign of stabilization in the U.S. housing market. One piece of softer data was the increase in the weekly jobless claims to 460,000. Continuing claims, on the other hand, fell over 100k to 4.550 million.

UK’s PMI for services fell 2 points to 56.5, but remained well in the expansion zone. In February, UK’s industrial and manufacturing production rose +1.0 percent and +1.3 percent respectively. The Bank of England met and announced no changes in interest rates (0.50 percent) or in the target for asset purchases (200 billion), maintaining the record breaking stimulus to support UK growth. The European Central Bank also met and maintained rates unchanged at its record low level of 1.00 percent.

PMIs for services in both France and Germany rose to 53.8 and 54.9 respectively, remaining well in the expansion zone. France’s manufacturing production rose +0.4 percent, but the industrial production was flat in February.

Equities markets

Equity markets were a touch higher in most of the markets, but fell in Japan. Despite the weeks of gains, the forward-looking P/E ratios appear reasonable.


Bond markets

Bonds rallied in the United States, but fell elsewhere on the week.



The U.S. dollar was unchanged against the euro, but fell against the yen, pound and looney this week.


Economic sectors

Small cap value and the REIT and financial sectors had the best performance while large cap growth and the health sector fared the worst on the week. On a year-to-date basis, the consumer durable and financial sectors and small cap value stocks did the best while telephones and large cap growth stocks did the worst.


Source: Bloomberg LP

John W. Davidson of Camden is managing director of Strategic Asset Alliance.