US political protests, inflation and rising bond yields

January 22nd 2021

us protest, inflation main image

Key points

  • US protests are only an issue for investment markets if they significantly impact economic activity.
  • Global and Australian recovery will boost bond yields and there is good reason to believe that (after yet another false ending) the now nearly 40-year supercycle decline in bond yields may be at or close to over.
  • But the end of the bond bull market is likely to be gradual and so shares and real assets are likely to still see some benefit from a search for yield.



New years often start with a few events to challenge any calm investors may have achieved over the Christmas/New Year break. Some of these prove short-lived like the global growth scare at the start of 2016 or the US inflation and interest rate scare in early 2018. Others have a more lasting impact such as the coronavirus pandemic. This year we have seen the year start with an attempted “insurrection” by a mob of Trump supporters and a sharp back up in bond yields. This has all come at a time when share markets have become a bit vulnerable to a correction after a strong run-up. The rise in bond yields begs the question of whether we have at last seen the end of the nearly 40-year bull market in bonds. But let’s first have a look at US politics as it will likely impact where bond yields go.


US protests largely ignored by markets

As disturbing and dramatic as recent events have been in the US – with President Trump provoking a mob of armed supporters to march on the Capitol leading to several deaths and some chanting “hang Mike Pence”, then Trump telling them “we love you”, all leading to him being impeached for a second time with even many Republican supporters turning against him – they had little impact on investment markets. And even as the protests by Trump supporters continue around Joe Biden’s inauguration, they are unlikely to have a big impact. This is because unless there is a significant disruption to economic activity and/or the sound working of the political process then they are of little relevance to investment markets. This was also the message from the Black Lives Matter protests in mid-2020 (not that they are really comparable) and past incidents such as the 1995 Oklahoma City and 1996 Atlanta Olympic Park bombings as well as numerous other terrorist attacks (bar 9/11 which was on a far greater scale). More fundamentally it seems that every so often the US goes through a catharsis only to emerge stronger – the Civil War, the Great Depression and the 1970s come to mind. There are three reasons for optimism.


Bonds 101

It’s first worth a quick refresher on how bonds work. If the government issues a bond for $100 and agrees to pay $3 a year in interest, this means an initial yield of 3%. The higher the yield the better, but in the short term the value of the bond will move inversely to the yield. If growth or inflation slows and the central bank cuts interest rates, investors might snap up the bonds paying $3 till the yield is pushed down to say 2%. In the process, the value of the bond goes up giving a capital gain. This is what’s happened in recent decades and explains why bonds have had good returns despite ever lower bond yields. But if growth or inflation pick up and bond yields rise, investors suffer a capital loss. And if you buy a bond yielding 2% and hold it for its term to maturity (say 10 years) the return will be 2% pa!


A bit of context around the big picture in bond yields

The next chart shows the US and Australian bond yields from 1860.


us pol protest 1
Source: Bloomberg, AMP Capital


Since the 1940s there have been two secular moves in bond yields:

Since their record lows at the height of the pandemic driven market panic in March/April, 10-year bond yields have risen in the US from 0.5% to 1.09% and in Australia from 0.6% to 1.08%, with the latest leg in the last few weeks. The drivers have been economic recovery, increasing optimism about a further recovery as vaccines are deployed with the likelihood of more stimulus in the US following the Democrats gaining control of the US Senate. Surveys of US investors now show inflation and higher rates as bigger concerns than coronavirus.

However, the bond bull market since the early 1980s has seen several reversals associated with cyclical economic upturns only to see the declining trend resume. There have been numerous attempts to call the end of the supercycle bond bull market (including from me!) only to see new deflationary shocks – the GFC, the Eurozone debt crisis, the 2015-16 global growth scare, US trade wars – push yields even lower. In this context, the recent rise in bond yields is just another uptick in a long-term downtrend. In fact, higher bond yields and steeper yield curves are perfectly normal in cyclical economic recoveries.


We may be at/close to the end of the bond bull market

However, more fundamentally, a range of factors suggest we may have seen/come close to the bottom in the 40-year supercycle decline in bond yields and that the trend may shift up:

Bond yields well below long term sustainable levels


us pol protest 2
* Assumes a slow return of immigration. Source: Bloomberg, AMP Capital



But a rising trend in yields is likely to be gradual

The end of the four-decade super cycle decline in bond yields will likely be gradual and unfold over several years:


Implications for investors?

There are several implications from an eventual end to the bull market in bonds. Firstly, expect mediocre returns from sovereign bonds as they will no longer be boosted by declining yields driving capital growth. 10-year bond yields of 1.1% in Australia imply bond returns over the next decade of just 1.1%! And in the short term, rising bond yields will mean capital loses.

Secondly, higher bond yields will impact share market returns as they make shares more expensive. Shares will be okay if the rise in bond yields is gradual and so can be offset by rising earnings – as we expect this year – but a large, abrupt back up in bond yields will be more of a concern.

Thirdly, a bottoming in bond yields will favour share market sectors that can benefit from economic recovery via higher earnings – like industrials, banks and resources stocks.

Fourthly, for real assets like unlisted commercial property and unlisted infrastructure, the search for yield may still support investor demand unless bond yields rise aggressively. But both sectors still have some issues to work through from the pandemic reducing demand for shops, offices and airports.
And for home borrowers, we are probably at or close to the bottom in fixed mortgage rates in Australia.


If you have any questions about this please contact us.

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About the Author

Dr Shane Oliver, Head of Investment Strategy and Economics and Chief Economist at AMP Capital is responsible for AMP Capital’s diversified investment funds. He also provides economic forecasts and analysis of key variables and issues affecting, or likely to affect, all asset markets.

Important note: While every care has been taken in the preparation of this article, AMP Capital Investors Limited (ABN 59 001 777 591, AFSL 232497) and AMP Capital Funds Management Limited (ABN 15 159 557 721, AFSL 426455) makes no representations or warranties as to the accuracy or completeness of any statement in it including, without limitation, any forecasts. Past performance is not a reliable indicator of future performance. This article has been prepared for the purpose of providing general information, without taking account of any particular investor’s objectives, financial situation or needs. An investor should, before making any investment decisions, consider the appropriateness of the information in this article, and seek professional advice, having regard to the investor’s objectives, financial situation and needs. This article is solely for the use of the party to whom it is provided.