The fresh madness in the bond markets

Reading financial markets is sometimes as frustrating as trying to divine the future from tea leaves, writes Eshe Nelson in Quartz. Not this time. Plunging bond yields are sending an unambiguous distress call as investors fret about everything from a weaker global economy and the trade war to Middle Eastern geopolitics and low inflation.

The amount of negative-yielding corporate and government debt surpassed $13trn last week, a new record, eclipsing the previous high of in mid-2016. Many market commentators predicted then that a secular bull market in bonds that started in 1982 had run its course. Yet negative yields are back with a vengeance. John Ainger on Bloomberg notes that Germany’s entire $850bn bond market looks poised to yield nothing at all. Yields on the country’s ten-year government bond are at an all-time low of -0.32%.

Another scramble for yield

In the topsy-turvy world of negative bond yields, the holder is actually paying the issuer for the privilege of lending them money. The trend is underpinned by central bank quantitative easing (QE)policies but is also driven by big institutional investors such as pension funds, which are compelled by regulators to hold a certain amount of bonds. Felix Salmon on axios.com notes that for institutional investors managing “trillions of dollars in assets”, stashing all that money in the bank isn’t an option – what if it goes bust? That leaves little option but to buy an instrument that, while guaranteed to lose money, is at least underwritten by a government.

Bond yields move inversely to prices, so a falling yield also implies a capital gain for the holder – provided they can find a greater fool to sell it on to. Yet the latest rally may not have much further to run. The BOAML’s monthly fund manager survey last week named “long Treasuries” as the world’s most overcrowded trade. If inflation spikes then holders will be left nursing huge real terms losses. Another sign of irrational exuberance is the news that Austria is planning its second century bond issue. Investors are apparently willing to lend their money for 100 years in return for the princely yield of 1.2%. As Marcus Ashworth on Bloomberg puts it, “What fresh madness is this?”

The mad dash for income is also blowing up bubbles.  Insurance companies have taken to buying up packages of corporate loans known as “collateralised loan obligations”, Pascal Christory of AXA France tells The Wall Street Journal. A “tsunami” of money is now pouring into such alternative investments. To make matters worse, the US corporate debt market is now more overheated than it was prior to the financial crisis.