Duplicating what the pros see

Unless you are willing to spring for the cost of a Reuters or Bloomberg terminal abiding trust of the market in the European Central Bank’s iron determination to restrain inflation. As a general rule, you want to buy the currency whose central bank is able to maintain a flattish yield curve, which is an indicator of central bank “credibility.”

A steep yield curve may reflect the prospect of higher growth, but also of higher inflation, while a flattening yield curve can imply lower growth than once expected, especially if the short end is going up, as in the U.S., while the long end is coming down.

These yield curve effects can’t be seen on the yield differential chart of a single maturity, such as the 10-year notes, but they are a hidden factor in their construction. The lesson here is not that the U.S. 10-year note has a 20-point or 40-point advantage over the German Bund and that’s that; the point is how the differential is shifting and how that relates to the two yield curves.

This is why it’s not enough to buy the higher return or sell the lower return — the shape of the yield curve and relative changes in yield count, too.