Muzinich Weekly Market Comment: Pressure point

January 13, 2025

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In our latest roundup of the key developments in financial markets and economies, we examine the reasons behind a challenging start to the year for government bonds.

Government bond yields have risen globally since the start of the year in a parallel pattern. Investors now anticipate that the US Federal Reserve will not loosen policy rates further until September, the only rate cut currently priced in for 2025. Expectations have similarly shifted in Europe, effectively removing 25 basis points of policy loosening.^[1]

Meanwhile, in his first public speech of 2025, Bank of Japan Governor Kazuo Ueda stated: “Our stance is that we will raise the policy interest rate to adjust the degree of monetary easing if economic and price conditions keep improving.”^[2] His comments hit sentiment in Japanese government bonds last week.

Weak week in China

In China, the key economic data last week centred on pricing, which offered little positive news. Consumer inflation decelerated for the fourth consecutive month, a setback to the government’s efforts to combat deflation and revive demand through economic stimulus. The consumer price index rose 0.1% in December year-on-year, in line with median forecasts.^[3] Factory deflation persisted for the 27th consecutive month, although the producer price index recorded a slower decline of 2.3%, slightly better than the median forecast of 2.4%.^[4]

However, Chinese bonds sold off following reports that the central bank had suspended Treasury bond purchases, fuelling speculation the move was intended to defend a weakening currency.^[5] Reports also emerged of a pay raise for government workers ahead of the Lunar New Year holidays. The wage hike is expected to benefit nearly 50 million civil servants — 10% of the urban employed workforce — and amount to around 5% of the average salary.^[6]

The pipeline of data from Europe was light, with the release of December euro area flash consumer prices the most significant. Both headline and core CPI came in line with expectations, at 2.4% and 2.7% respectively.^[7] Although headline inflation increased from 2.2% in November, largely due to higher energy prices, the data was considered neutral for interest rates.

Trump card

The upward movement in government bond yields was likely driven by speculation surrounding the first 100 days of the incoming US administration, which is expected to be packed with domestically focused initiatives that are ostensibly pro-growth, pro-business and pro-markets. US dollar appreciation has become a consensus trade, as investors rationalize that the US economy offers the potential for higher growth, interest rate carry, and financial asset prices. This has created expectations of an avalanche of capital inflows.

US dollar appreciation is inflationary for the rest of the world. As the global reserve currency, a stronger dollar forces international businesses to exchange greater quantities of their own currencies to purchase goods, services, and capital priced in dollars.

This dynamic ultimately tightens global liquidity, a trend reflected in rising government bond yields across Europe.

Perhaps unsurprisingly, the UK government bond market was the worst performer last week given its relatively inexperienced government, fiscal expansion policies, and status as the G7’s second-largest twin-deficit sovereign (behind the US). The UK is also heavily reliant on overseas investors, with around 31% of gilts held overseas.^[8] Last week, the 30-year gilt yield rose to levels not seen since 1998 (see Chart of the Week).

All rise

Another driver of rising government bond yields globally was speculation surrounding US tariffs, which can be swiftly implemented by the White House without the approval of Congress. Reports last week indicated the incoming administration is considering a tariff plan that would apply to all countries but be limited to specific critical imports.^[9] While the targeted sectors or goods were not immediately clear, the focus is likely to be on industries deemed essential for economic and national security.

The speculation served as a catalyst for a strong rally across commodity markets, with energy prices surging 6% to reach a new three-month high, and metals such as copper and silver spiking by over 3%.

The final driver of rising yields was the strength of the US labour market. The Job Openings and Labor Turnover Survey for November revealed job openings had increased to a six-month high.^[10] Meanwhile, initial jobless claims fell to 201,000 last week, a nine-month low,^[11] and the all-important nonfarm payrolls report significantly exceeded expectations, with 256,000 new jobs compared to the median forecast of 165,000, and the unemployment rate declining back to 4.1%.^[12]

Simply put; labour market strength translates into an acceleration in real disposable income, which should support household spending and above-trend economic growth.

Chart of the week: UK long-term gilt yields hit levels not seen since 1990s

Source: Bank of England, as of January 10, 2025. For illustrative purposes only.

Past performance is not a reliable indicator of current or future results.

References

[1] Bloomberg, ‘Market implied policy rates,’ as of January 10, 2025
[2] Bloomberg, ‘BOJ’s Ueda Sends Fresh Reminder to Bankers on Raising Rates,’ January 6, 2025
[3] National Bureau of Statistics of China, January 9, 2025
[4] National Bureau of Statistics of China, January 9, 2025
[5] Reuters, ‘China's central bank halts bond buying as yuan struggles,’ January 10, 2025
[6] Bloomberg, ‘Pay rise for public workers tips hopes, risks,’ January 9, 2025
[7] European Commission, ‘Inflation in the euro area,’ January 7, 2025
[8] The House of Commons Library, ‘Gilts – a simple guide,’ December 18, 2025
[9] The Washington Post, ‘Trump aides ready ‘universal’ tariff plans — with one key change,’ January 6, 2025
[10] US Bureau of Labor Statistics, ‘Job Openings and Labor Turnover Summary,’ January 7, 2025
[11] US Department of Labor, ‘Unemployment insurance weekly claims,’ January 8, 2025
[12] US Bureau of Labor Statistics, ‘Employment Situation Summary,’ January 10, 2025

 

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