On the deflation trail

16 May 2003

It is only possible to justify extremely low yields if one believes in a long period of deflation. The Fed’s acknowledgement that deflation is a minor risk has fuelled the rally. But with 10year yields at 3.5%, bonds may have overshot.

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Growing fears of deflation have pushed yields on longdated US government to record lows.

Since May 6, when the US Federal Reserve hinted it might cut interest rates from their current 1.25% level, 10year bond yields have fallen to a 45year low of 3.49%. Longer dated 30year bond yields meanwhile dropped to an all time low of 4.43%.

On Thursday, data showed that core US producer prices – which excludes volatile food and energy prices – fell 0.9% in April. April's consumer price index is expected to fall 0.1%, helped by lower oil prices.

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