Over the last five years, many sovereign nations in Europe have been on edge of default including the likes of Ireland, Greece, Spain, and Italy. To avoid a doomsday scenario, the European Central Bank used massive liquidity injections to stabilize the European economy and promoting job growth. By doing so, bonds in European nations have increased in value, which has resulted in their yields plummeting below U.S. treasuries. The major issue for European investors is this bonds are not as safe when compared to U.S. bonds, which has sent European investors scrambling for safer investments that also have high returns.
Two major consequences for this on American debt instruments and equities are as follows. First, bond yields in the U.S. remain at historic lows despite an improving economy and inevitable rate hike on the horizon. Second, equities are being replenished with fresh capital from European investors, which has enabled this record setting bull market to continue fresh legs. Considering many European bonds only offer a measly 2.5% interest rate, which pales to prior years where yields were almost 7%, it makes sense why European investors are storing their funds in U.S. equities and not in Europe.
Even China continues to enjoy U.S. bond action. In fact, China owns up to $2 trillion of our debt through U.S. bonds, and it does not appear they will be slowing down anytime soon on consuming more bonds. China and European investors recognize the U.S. economy is the most stable and is least likely to default on their debt. Thus, U.S. equities and debt instruments are highly regarded as havens for investors in comparison to other alternatives provided on the marketplace.
Later this month we will find out if the Federal Reserve will raise interest rates once again. Ever since their first-rate hike in over eight years, the Fed has been reluctant in doing so since then for a variety of reasons, including the election and mixed economic data during the summer. Higher interest rates cause bond prices to fall, leading to excess supply of bonds. For the time being equities that are bond market equivalents because of their stable profits and higher yields are better options for all investors than bonds.
As more European investors enter the U.S. markets, expect fresh capital to continue the bull run in equities while nations in Europe struggle to raise capital for their firms and governments.
