US rate hike leaves banks at a loss

Sudden increase of US long-term interest rates has left investment banks at a loss. An investor can be tempted to buy or sell depending on the entity advising him.

Basically, banks have different interpretations of Treasury bonds' drop (or yield escalation) observed during the last ten days, particularly yesterday. According to some analysts, this rate hike is not serious, since it's linked to an economy which keeps on growing robustly not only in US, but also at the global level.

Pressures

However, some others warn that this movement stems from an increase in inflationary pressures, leading global central banks to keep on rising rates. Only a few weeks ago, investors were forecasting that US Federal Reserve was going to reduce yields gradually, in view of signs of slowdown, both in activity and in inflation.

Next, you will find the opinion of some of the main investment banks of the world:

JP Morgan: Stock market has retreated, but it has only lost part of profits accumulated so far 2007. The reaction was milder this time than twelve months ago, when a similar wave of sales lashed bond market. Now the scene is different, since, one year ago, investors were afraid of Fed further adjusting its rate policy due to an increase in inflationary risk. Current reaction in rates is linked to greater economic activity across the globe, while inflationary expectations have only risen modestly. All the same, stock rise prospects have reduced after yield increase. As regards the end of the year, we are cautious about stock market, since high inflation and uncertainty about next Fed's step increases risk prospects across the world.

HSBC: Strength is the new weakness. Clear US economy rally, together with high global growth, is triggering greater inflationary pressures. Investors fear that central banks might be forced to keep on rising rates.

The only risk now may be a wave of stock sales like the one observed at mid 2006. Therefore, we have reduced stock participation in our portfolio. Interest rate hike has been dramatic. Anyone buying 30-year bonds at the beginning of March would now be enduring a 10-per cent loss.

Lehman Brothers: We don't believe that bond rate rise will affect the foundation for stock market, thus we have a positive outlook. At a 5-per cent annual yield, it's clear that correlation between rates and market is null. What's more, from our point of view, stock market still offers handsome valuations. We don't see signs of price exuberance. However, we don't rule out some change in our position in the short term, but it would only be a tactical modification within our long-term outlook, which is positive for stocks. Japanese market may be the one benefiting the most from rate hike.

Deutsche Bank: Will the rise in yields stop the equity rally? We don't think so. When interest rates and growth prospects move in the same direction (whether upwardly or downwardly simultaneously), both end up redressing impact on stock market. Recent rate rise is mainly linked to better-than-expected economic growth data.