The Difference Between U.S. Treasury Yields and German Bund Yield…

In this week’s pip academy, we look at the difference between the U.S. treasury yields and German Bund yield.

The U.S. dollar is number one world reserve currency and the euro is the number 2. Between these 2 currencies they encompass 55-60% of all the world’s transactions in banking, bonds and trade. Because these are the top two currencies, the strength and weakness of each economy plays into how much demand there is for each currency. Interest rate yields arguably play and even stronger roll in determining that demand.

Recently, on anticipation of equity strength and on anticipation of a rate hike from the Federal Reserve, the U.S. treasury rates have been rising dramatically, hitting 11 month highs. The German bund rates have been rising but not nearly as aggressively as the U.S. treasury rates. A year ago U.S. yields were near 2.2% rates dropped to 1.35% and have recovered to 2.33% since July. German bund rates fell to -0.189% in July and have rallied to 0.27% to finish the week.

Comparing the two rates, there is a differential of 1.93%. The difference is an increase of 0.40%. This means that all things being equal, central banks are incentivized nearly 2% to place reserve deposits in U.S. treasuries in lieu of the German bunds. This bonus pushes deposits to the U.S. and increases the demand for the dollar. Looking at the price action since July, the euro has lost ground against the dollar and the EUR/USD dollar pair has fallen more than 600 pips.

If U.S. yields continue to rise and if the differential between the U.S. treasury rate and German bund rates continues to increase, this pair will likely continue the long-term downtrend. We anticipate that a rate hike or even two rate hikes in the U.S. treasuries will likely see the pair reach parity by mid year next 2017.