Rising global interest rates shut off easy money

By Jennifer Ablan

NEW YORK (Reuters) - The cozy world of easy money and rallying stock markets is slowly fading as bond yields in the United States and abroad surge on fears of inflation and on central bank interest rate hikes.

The jump in bond yields portends a sustained period of higher interest rates, increasing the cost of capital for Corporate America. It may also keep the furious run in global stock markets and corporate credit sectors from overheating.

This week alone, the European Central Bank, Reserve Bank of New Zealand and South Africa's central bank raised interest rates, citing inflationary pressures as the dominant factor behind their decisions.

Additionally, Federal Reserve Chairman Ben Bernanke on Tuesday quashed speculation of any interest-rate cuts when he warned inflationary risks remain high.

Even long-time bond bull Bill Gross, chief investment officer for Pacific Investment Management Co., which manages the world's largest bond fund, conceded on Thursday that the solid pace of global economic growth and inflation will likely keep bonds under pressure.

That forecast prompted Gross to acknowledge himself a "bear market manager" after a quarter of a century as the global bond market's most powerful bull.

Bond investors including Gross aren't the only ones taking note of the dramatic rise in yields.

Next week, Reuters hosts over a dozen leading portfolio managers and strategists at its mid-year Reuters Investment Outlook Summit in New York where they will address the impact of higher interest rates and bond yields on the markets.

The summit comes as rising global yields rattled major stock indexes, which closed on Friday with their biggest weekly losses since the Shanghai sell-off during the week of February 26.

The sharp upward move in bond yields could also slow corporate-debt borrowing from private-equity firms, which have been on a leverage buyout binge in the last 12-months.

The yield on the benchmark 10-year Treasury note has climbed more than half-percentage point above the psychologically important 5 percent mark, to 5.11 percent on Friday, in less than a month.

"The rise in bond yields is helping to do the Fed's job in tightening financial conditions," said Tom Sowanick, chief investment officer at Clearbrook Financial LLC in Princeton, New Jersey.

Over the last five years, low interest rates and bond yields have resulted in accommodative financial conditions.

Hedge-funds have borrowed at rock-bottom U.S. short-term rates to fund highly leveraged positions of higher-yielding, longer-term securities such as emerging-market debt and high-yield junk bonds. In turn, that has shrunk risk premiums.

The record low premiums led Alan Greenspan, when he was the Fed chairman, to warn a few years ago that investors had bid up prices and demanded less compensation for purchasing risky assets. That kind of behavior, he contended, reflected "unrealistic expectations" of sustained economic stability.  Continued...