Spark Global Limited reports:
Why is it commonly believed that “us bond rates move in the same direction as the dollar”?
First of all, this is influenced by the theory of interest rate parity. The main point of interest rate parity theory is that exchange rate depends on the relative return of two countries’ currencies. When there is a difference in interest rates between two countries, capital will flow from the side with low interest rate to the side with high interest rate to seek profits. Thus, as capital flows out, the spot exchange rate of a low-interest-rate country’s currency will fall; Conversely, the spot exchange rate of the currency of a country with high interest rates will rise. That is, if U.S. interest rates rise relative to European rates, for example, it will trigger a short-term flood of capital into the United States, which will cause the dollar to rise relative to the euro. Since the DOLLAR index is the relative change of the dollar against a basket of currencies such as euro, pound and yen, and euro accounts for the highest proportion in this basket, the appreciation of the exchange rate of the dollar against euro drives the dollar index to strengthen.
We can also think about it in terms of asset prices. The performance of the dollar and treasuries is really an outcome, and the cause is a change in macro fundamentals. The dollar, for example, usually reflects changes in the relative strength of the U.S. economy relative to other economies. So the dollar index and the dollar-euro exchange rate tend to have a good synchronization with the strength of the US relative to the European economy.
Bond yields, the cost of funding for a government, are driven by the overall return of the local economy, known as nominal GDP growth. The 10-year Treasury yield, for example, has a long-term positive correlation with nominal GDP growth. Thus both the dollar and Treasury prices are influenced by the fundamentals of the US economy, and a stronger US economy will drive both the DOLLAR index and Treasury rates.
Therefore, regardless of medium and long term pricing factors, or considering the impact of interest parity on the short term, the relative exchange rate of Germany and Germany should maintain a certain positive correlation with bond spreads.
However, according to our actual backtracking, the 10-year GERMAN-German bond spread and the DOLLAR/euro exchange rate, while showing some positive correlation, often diverged over time (since German bond rates are highly correlated with European bond rates, we use German bonds instead of European bonds below). For example, from 1999 to 2004, from June 2008 to 2009, and from 2017 to 2019.