Be careful inflation vigilantes

Bond vigilantes worrying on inflation have pushed yields worldwide as ultra-loose monetary policies from central bankers' across world runs the risk of running too successful. Bond market has certainly became worried about the prospects of runaway inflation.

• 10 year bund yield has been pushed from 0.05% in mid-April to 0.65% as of now.

Inflation expectation has gone up significantly across world since January.

However inflation vigilantes should be careful as inflation remains vulnerable if crude price falters. Demand is yet strong enough to push prices higher rapidly and strong dollar might still pose significant downside risk for commodities.

Even if deflationary fear has subsided, inflationary risk still remains contained. Current rally might turn out to be similar seen in Japanese bonds in 2013.

• In early 2013, Japanese 10 year bond yield jumped from 0.42% to 0.92% within months, however the rally faded subsequently in the coming months pushing the yield even lower around 0.20% by end 2014.

Moreover actual inflation reading remains quite low, suggesting any inflationary fear is overdone.

• German wholesale price index dropped -0.9% in April on yearly basis, while HICP grew by only 0.3% in April from a year ago. CPI is up 0.6% q/q.
  
  
• French consumer prices grew only by 0.1% m/m in April.
  
  
• Spanish CPI is up 0.9% m/m in April, however HICP is still down by -0.7% on yearly basis.

Current bond rally is being fuelled by subsiding deflationary fear over longer term and exit from an overcrowded trade and runs the risk of getting sour.