Why Indian traders must watch the US bond yields as well

The benchmark 10-year Treasury yield in the US rose 5 basis points on Wednesday (September 27) to 4.612 percent, the highest level seen since 2007. This uptick in yields has left traders grappling with concerns of persistent inflation and the possibility of a more extended period of tighter monetary policy than anticipated.

The relationship between yields and prices is inversely proportional, where one basis point equals 0.01 percent.

The recent increase comes after the Federal Reserve indicated last week that interest rates would continue to rise and remain at elevated levels for a prolonged period. This pronouncement has stirred concerns among investors about potential implications for the economy.

In parallel, worries about a potential government shutdown in the US have resurfaced. Moody's has issued a cautionary note, warning that such a shutdown would have an adverse impact on the credit rating of the world's largest economy.

The 10-year Treasury yield represents the return the government offers to investors who purchase this specific security. Investing in a 10-year note is akin to extending a loan to the US government.

This yield serves as a crucial indicator of investor confidence in the market. Investors weigh whether they can attain higher returns by investing in riskier assets like stocks and ETFs compared to the yield from a 10-year Treasury.

The yield acts as a barometer reflecting investor confidence in the market.

Prices for the 10-year bond drop when investor confidence is high, which causes yields to rise, as investors can potentially find assets delivering superior returns. Conversely, when investor confidence dwindles, bond prices rise, causing yields to fall.

A declining yield signals caution in the market. US government bonds are perceived as safe-haven assets; thus, any geopolitical instability across the world impacts their prices.

When bond yields rise sufficiently to surpass returns from stocks, the opportunity cost of investing in stocks escalates, making them less attractive. Consequently, fund flows may shift from equities to debt markets. Given the safe-haven status of US treasuries, investors tend to favor them.

Investors often wonder if they stand to lose money on Treasury bills. The answer is no because the principal amount is safeguarded by the government. However, Treasury bills are susceptible to inflationary pressure. In case inflation surges, the purchasing power of the principal diminishes by the security's expiration date.

Manishi Raychaudhuri of BNP Paribas told CNBC-TV18 that the spike in the US Dollar and yields indicates capital movement towards safe havens like the US market. He also anticipated another rate hike from the US Federal Reserve in November.

In contrast, Mark Matthews of Julius Baer expressed that he does not foresee bond yields rising beyond these levels, sharing his perspective in an interaction with CNBC-TV18 on September 12.