US elections: Two markets are ignoring the yield shock - Nomura

Bilal Hafeez, Research Analyst at Nomura, suggests that the market is quickly cycling through narratives since Donald Trump won the US election.

Key Quotes

“Initially, it was a Brexit-style risk sell-off with yields falling, yen rallying and equity weakness. Then it was US reflation on expected fiscal stimulus, which saw yields rise, the dollar rally and equity strength. Now it is “taper tantrum” with higher yields, and EM weakness. Within the latest narrative, two markets stand out: equities and Japanese bonds.” 

“When we look at how risk measures in various markets settled at the end of Election Results Day (9 Nov), most were signalling a benign environment: equity and FX volatility was subdued and EM and credit spreads were well behaved. Fast forward to today and the picture is very different. Emerging markets are seeing sharp sell-offs. Currencies like the Malaysian ringgitt and Korean won have tumbled over the past 24 hours. Our risk measures across all markets are now in “risk aversion” territory, except for one: equities. It’s not certain that equities will follow other markets. Indeed, during the reaction to the Brexit vote EM markets didn’t follow other markets into risk aversion. However, often markets do end up correlating. We therefore need to keep a close eye on equities in the days ahead.”

“The other market that appears to have been immune to the global bond sell-off is JGBs. Given the scale of moves in Treasuries and Bunds, this is all the more remarkable. Yet we know the reason – the BOJ’s yield curve control policy. In theory, it should be easy for the BOJ to stop a bond yield rise as it can buy JGBs. In the opposite direction, stopping a JGB yield decline though selling JGBs would appear like tapering and so conflict with BOJ goals. So assuming the BOJ can and will maintain its yield curve control policy, Japan should not see a tightening in financial conditions that other countries will face. This should be bearish the yen and supportive of Japanese asset markets.”