Is this the beginning of the end for the bond bull market?
German government bond yields just shot up. Could this be the pin that bursts the bond bubble? John Stepek looks at the threat it poses to the global economy – and your wealth.
TodayI want to take a brief step back from all the election excitement, and look at another area of the global economy.
There's a lot going on out there, and it's not all directly related to who ends up running Britain next month.
But it could certainly give our incoming government the biggest headache of their administration.
Subscribe to MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
Sign up to Money Morning
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
I'm talking about the bursting of the bond bubble
The biggest lie about bubbles is that no one sees them coming
The truth about bubbles is that they're blindingly obvious. What happens is that people ignore them. Why? Firstly, it's often in their best interests. If you own something, and it's going up fast, then who cares how overvalued it is?
Secondly, there's self-doubt in the face of the crowd. You might be able to see that logically something is a bubble. But how can it be, if everyone else is buying? What have you missed?
It's exactly like the Emperor's New Clothes. The point of that story is that everyone could see that the emperor was naked. It was just in their best interests to agree that he wasn't. (Not to mention that in the real life version, the overly-observant small boy would have been tossed in a dungeon somewhere as soon as he opened his mouth).
This leaves bubble markets in a very vulnerable state. At one level, most of the participants, barring the minority of wild-eyed innocents, know that it can't last. So they all have an eye on the exit at least sub-consciously.
It's also the reason why it doesn't take anything specific to pop a bubble. The dotcom bubble was very clear to plenty of people before it burst, and with hindsight it's even more obvious. But why did it top out on that specific day? What was the turning point, the inciting incident? No one knows.
We'll be saying the same for the bond bubble when it finally pops. And yesterday we got some signs of how suddenly things can move when they do start to slide.
The slide in German bond prices
Why did it happen? If you had to point to something specific, it's probably that German inflation rose faster than expected in April. Rising inflation is bad news for anyone holding bonds. Particularly when you've bought them on a yield of near-zero.
It probably didn't help that Bill Gross recently called bunds the short of a lifetime'. And yesterday his rival bond guru, Jeff Gundlach, also talked about putting a leveraged short bet on bunds. In other words, both are betting or certainly talking about betting on yields going up, and prices going down.
As Salman Ahmed of Lombard Odier told Bloomberg: "These are influential voices that offer a contrarian view when the German bond market appears to be at an extreme level, so there's definitely going to be an impact on the market".
At the end of the day, it doesn't make sense for German bunds to be this low if the economy is strong (which it seems to be) and inflation is picking up. And in the absence of the promise of European Central Bank quantitative easing, they probably wouldn't be this low.
That sort of logic leaves buyers and holders jittery. Anything could trigger further falls. "The point is that a cascade of small events is leaving a large splash in a structurally ever thinner bond market," as Christoph Rieger of Commerzbank told the FT.
James Ferguson of the Macrostrategy Partnership has looked at the dangers posed by a bursting bond bubble for us. It'll be in the next issue of MoneyWeek magazine (out on Thursday rather than Friday for next week only).
The threat to Britain from rising bond yields
During the 2010 election, Britain's fiscal state was a major political issue. Today it has sunk into the background somewhat, with parties more keen to talk about tax they'll cut or what they'll spend more on. But we are still hugely indebted.
Any broad-based rise in interest rates could be very painful indeed, particularly if we get a government whose commitment to fiscal responsibility is in doubt.
That's why you need to have a plan in place for what to do with your money. Which is why subscribersshould make sure they'vesigned up for MoneyWeek's election action pack if you haven't read it yet, take a look at it now.
Sign up to Money Morning
Our team, led by award winning editors, is dedicated to delivering you the top news, analysis, and guides to help you manage your money, grow your investments and build wealth.
John Stepek is a senior reporter at Bloomberg News and a former editor of MoneyWeek magazine. He graduated from Strathclyde University with a degree in psychology in 1996 and has always been fascinated by the gap between the way the market works in theory and the way it works in practice, and by how our deep-rooted instincts work against our best interests as investors.
He started out in journalism by writing articles about the specific business challenges facing family firms. In 2003, he took a job on the finance desk of Teletext, where he spent two years covering the markets and breaking financial news.
His work has been published in Families in Business, Shares magazine, Spear's Magazine, The Sunday Times, and The Spectator among others. He has also appeared as an expert commentator on BBC Radio 4's Today programme, BBC Radio Scotland, Newsnight, Daily Politics and Bloomberg. His first book, on contrarian investing, The Sceptical Investor, was released in March 2019. You can follow John on Twitter at @john_stepek.
-
Investors pulled £4.2bn from equity funds ahead of Budget tax raid
October was the third-worst month on record for fund flows, new figures show, as investors sold assets ahead of the Autumn Budget
By Katie Williams Published
-
What Keir Starmer's ‘Plan for Change’ means for you - six milestones explained
Prime Minister Keir Starmer has set out six milestones that the public can judge the government by - we reveal Labour's top policy targets
By Marc Shoffman Published