The simple way to understand the bond market

Julie Brownlee, Fsp Invest, 01 Jul. 2015

Tags: bond market, bonds, understand the bond market, bond market basics, economic factors and bonds,

The bond market can appear complicated. It can be hard to know what’s going on in the world’s debt market.

So what makes a difference to the prices of bonds? And what’s the best way to get to grips with what’s going on in the bond market?

Read on to find out…

How the bond market works

Take a look at the bond market matrix below…

Bond market matrix

You can see three measures make up this matrix:

  • The economy;
  • Inflation; and
  • Interest rates.

These three measures tend to head in the same direction, Dr David Eifrig in Daily Wealth explains. So if you know where two of these measures are going, you should be able to work out what’s happening to the third.

How to work out where the bond market is going

For example, if the economy is doing very well and inflation is rising, interest rates will rise too.

Or, once interest rates start rising, you expect the economy to be doing well or inflation to be rising. Or sometimes both.

Bond prices and interest rates react to demand for bonds as safe assets.

When the economy is booming, investors prefer stocks. So they sell their stocks and interest rates rise.

When inflation is high, the income from bonds doesn’t look as good. So investors sell their bonds when inflation rises.

Sometimes these movements happen because of expectations too, not just reality.

Take what’s happening in the US. Investors are betting on when the Federal Reserve will increase interest rates. But the Fed won’t start hiking rates until the economy is doing well and inflation is on the up.

Yes, the bond market can move around and it’s been seeing a lot of volatility lately. But keep in mind the simple bond market matrix above. This will help you see what could be on the cards for the market. It’s the simplest way to do it.

So there you have it. The simple way to understand the bond market.

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