Real Yields Pull Back as Investors Rethink Growth Prospects

By Min Zeng Features Dow Jones Newswires

Inflation-adjusted bond yields are falling again, highlighting investors' doubts about the U.S. economy's growth prospects.

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The yield on the 10-year Treasury inflation-protected security, or TIPS, pulled back to 0.483% Friday, down from 0.530% Thursday and a recent high of 0.646% on July 7. Yields fall when bond prices rise.

The 10-year TIPS yield is one popular measure of so-called real yields, or the yield on the benchmark 10-year Treasury note minus the rate of inflation.

Real yields are important because they reflect investors' actual purchasing power from their bond investments.

At the moment, lower real yields reflect several factors, including a run of underwhelming economic data and the unraveling of postelection bets that Trump administration policies would boost growth and inflation.

One concern for investors is that a rise in real yields would raise borrowing costs, increasing the debt burden of consumers and businesses. That could further crimp the prospects for economic growth, which could make major central banks cautious in shifting toward reduced monetary stimulus.

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ECB President Mario Draghi on June 27 signaled that the central bank might start winding down its bond buying program as the eurozone's economy improves, which kick-started a selloff in the global government bond market. But on Thursday, Mr. Draghi appeared to be less hawkish, signaling instead that inflation isn't showing convincing signs of picking up.

After initially dismissing signs of tepid inflation as transitory, Federal Reserve Chairwoman Janet Yellen said in congressional testimony earlier this month that the central bank could reassess its pace of interest rate increases if inflation remains stuck below its 2% annual target.

"Lower real yields, if sustained, imply lower growth potential for an economy," said Donald Ellenberger, head of multisector strategies at Federated Investors. "The hopes of fiscal stimulus in 2017 are becoming more remote, inflation is moving away from the Fed's 2% target, and Yellen told us earlier this month that the Fed's policy rate wasn't too far away from neutral."

Long-term borrowing costs retreated as bond yields declined. The yield on the 30-year fixed rate mortgage average fell to 3.96% for the week that ended Thursday, from 4.03% a week earlier, according to data from Federal Reserve Bank of St. Louis.

The moves in real yields have coincided with swings in other interest-rate sensitive investments. As real yields rose during the recent selloff, prices of gold and silver fell. A rise in real yields increases the relative attractiveness of bonds over the metals, which don't offer regular interest payments. Metal prices have risen in recent sessions as real yields have slipped.

Meanwhile, the average yield on U.S. junk bonds also ticked up as real yields climbed, and retreated as bonds rallied recently. U.S. bond funds and exchange-traded funds focusing on U.S. junk bonds have suffered weekly net outflows in four of the past five weeks, according to data from fund tracker Lipper.

Some investors don't expect a big selloff in the junk bond market.

"We are moving away from extremely accommodative monetary policy," said Ron Sanchez, chief investment officer at Fiduciary Trust Co. International. "The regime change may generate volatility, but I don't think this would cause a big correction in stocks or junk bonds."

Write to Min Zeng at min.zeng@wsj.com

(END) Dow Jones Newswires

July 23, 2017 09:14 ET (13:14 GMT)