US and German bond yields have widened to levels not seen in almost 30 years

Key Points
  • The spread between the 2-year yield on U.S. and German bonds has hit its widest level since March 1989.
  • Robust data in the United States has pushed yields higher.
  • Euro zone growth, led by Germany, has been slowing in 2018.
President Donald Trump and Angela Merkel, Germany's chancellor, right, stand for photographs at the West Wing of the White House in Washington, D.C., on Friday, April 27, 2018.
Andrew Harrer | Bloomberg | Getty Images

The spread between the 2-year yield on U.S. and German bonds has hit its widest level since March 1989.

At one point Wednesday, the spread reached 314 points. The last time that number happened, the Berlin Wall was still in place and Madonna's "Like a Prayer" ruled the airwaves.

Robust data in the United States has pushed yields higher as investors bet that the Federal Reserve will stay the course to raise rates three times this year.

After the Fed already approved a one-quarter point-hike in March, the market is now pricing in a 95 percent chance of a June increase, 72 percent chance for September.

Travis Spence, EMEA Head of Fixed Income Investment Specialists at JPMorgan Asset Management goes further, saying he expect's the Fed to increase 4 times this year.

"The combination of fiscal stimulus in US, expected to add 0.5% to GDP and bring run rate by year end to around 3%, and the strong April retail sales print this week, caused a re-pricing in Fed expectations," he said by email Wednesday.

Added to that, the unemployment rate in the U.S. has dropped to 3.9 percent, a figure not seen since 2000, triggering estimates that wage inflation is set to rise.

With U.S. yields rising, there has been some sell-off in the equity market as market players factored in the likely higher cost to corporates as well as the increased attractiveness of bonds.

Europe slows

At the other end of the spread lies Germany, a country whose economy is often taken as a proxy for the health of Europe.

The German economy grew slower than analysts had forecast in the first three months of 2018, federal statistics authority Destatis said Tuesday. Europe's powerhouse only expanded by 0.3 percent quarter-on-quarter between January and March.

That was a big slowdown from the previous three months, and analysts surveyed by Factset had predicted growth of 0.4 percent.

Added to that is the perennial inflation problem that is besetting the European Central Bank (ECB). Euro zone inflation slowed in April, Eurostat said Wednesday, confirming flash estimates.

Inflation in the 19 countries sharing the euro currency was 1.2 percent in April. The core figure that strips out energy and food prices was at 1.1 percent.

The ECB, aiming for more growth and an inflation figure of just under 2 percent, is currently fending off questions about when it will end its 2.5 trillion euro ($3 trillion) asset-purchasing scheme.

JP Morgan's Spence said poor European data combined with disappointing GDP growth from Japan was triggering a de-coupling of US rates from other developed markets.

The analyst added that the path of the US Dollar will be "an important determinant of how far US yields can decouple from the rest of the world".