Sunday, July 5, 2009

commodity^IR^FX interaction illustated

When oil, crops (and gold) appreciate against USD, the objective and rational Treasury bond buyers have to discount the cash "flows" deeper [1,2]. In other words, buyers are willing to pay less for those little papers known as coupons. Sellers reluctantly follow.

Commodity (and gold) prices can also rise due to USD depreciation.

QE2 in the US but not Eurozone ==> USD depreciation against Euro and other currencies =?=> commodities appreciation ==> T yields rise. Each cause-effect in the chain reaction is "one of the factors".

Now, magnitude of this so-called yield shift depends on how important commodities are to an economy. Is it 3% of the economy or 30% of the economy?

I feel basic commodity prices are a major contributing factor beneath the consumer price index.

[1] "Flows" are the shorthand for the multiple future cash flows of any bond, except zeros.

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