Government Bonds: Yield Curve

Buy when the yellow line trends higher, sell it trends lower

Sample chart showing if there is any correlation with the yield curve. Forecast year on year changes shown in orange.

This strategy looks at the difference between short term interest rates and long term bond yields to show the incentive for investors to move out along the yield curve to longer dated issues.
 
For comparability, bond market indices have been rebased to set year-end 1994 at 100. Please note the differences between charts in the Bonds RouteMap and those for other RouteMaps. Since income is a major consideration for investment in bonds, bond market indices are shown as total return and not in terms of price only.
 
The bond price index is shown as the thick white line on the right hand axis. The explanatory variable, the yield curve uses the left hand axis and is shown as the thin yellow line.  A Best Guess as to its future shape is also shown on the left hand axis as the thin orange line.
 
In each chart the bond price index is shown in as the thick white line on the right hand axis. The main explanatory variable, the yield curve i.e. ratio of long-term bond yield to short-term interest rates uses the left hand axis and is shown as the thin yellow line.
 
A Best Guess as to the future development of the ratio is also shown on the left hand axis, as the thin orange line. Best Guesses suggest what would happen to the yield curve based on Consensus Forecasts for bond yields and interest rates.
 
Generally the ratio of long-term bond yield to short-term interest rates is low when interest rates are expected to fall and bond prices expected to rise, and vice versa. Thus, an upturn in the ratio indicates increasing optimism and a downturn indicates increasing pessimism. Please note that the value axis for this ratio, on the left hand scale, has been inverted, so that movements in the ratio point in the same direction as any changes in bond prices that they may indicate.
 
Owing to the conversion of legacy currencies into Euros, analysis is provided on a common bond market denominated in Euros, rather than for individual countries. Historical data is provided by creating synthetic GDP-weighted time-series for the component currencies, expressed in the European Currency Unit.
 
Traditionally the ratio tended to fluctuate within a well-defined range, so upturns from a low are cyclical buying opportunities and downturns from a peak are selling opportunities. However in the past decade, fluctuations have been much more extreme as short term rates approach zero, so historic turning points are no longer useful.