So far 2021 has been a rather unsettling one for central bankers. There have been two main drivers of this. One is the rise and rise of Bitcoin which I note saw new highs over the weekend. But today’s subject is something that sends a deeper chill down their spine. Whilst we get a fair bit of talk from them about higher interest-rates in truth they give them sleepless nights.
Yields on 10-year Treasury notes have already reached 1.38%, breaking the psychological 1.30% level and bringing the rise for the year so far to a steep 43 basis points.
Analysts at BofA noted 30-year bonds had returned -9.4% in the year to date, the worst start since 2013. ( Reuters )
Just for clarity we are looking at the United States here and as they missed it out the thirty-year yield is now 2.16%. In terms of a comparison the ten-year began the year around 0.9% and the thirty-year 1.65%
The same rise of around 0.5% can have two different contexts. The historical one would be that it is not much but in my opinion that was then and this is now. So much of financial life is anchored around ZIRP ( Zero Interest-Rate Policy) and in some cases NIRP which suggests that more minor moves will have an economic impact. As an example of this let me bring you a consequence of all the easy monetary policy.
The average yield on US corporate junk bonds has dropped below 4% for the first time on record as investors hunt for stronger returns in an environment of low interest rates, according to a Bloomberg report.
The Bloomberg Barclays U.S. Corporate High-Yield index dropped to 3.96% late Monday, marking a sixth consecutive decline. Bond yields fall as prices rise.
Investors have been scooping up debt that carries low credit ratings as they offer higher yields than bonds in less-risky markets. A major factor driving investors to search for higher returns is the near-zero interest rate policy set by the Federal Reserve. (Business Insider)
That was from the 9th of this month. One way of putting it is that High-Yield is now something of an oxymoron and in spite of the rhetoric about “less-risky matkets” above the risk is well er higher.
The riskiest borrowers in corporate America are making up their largest share of junk-bond sales since 2007 as yield-starved investors hunt for returns and bet on an economic recovery. ( Financial Times )
As you can see what is considered a risk-free yield has risen as much riskier ones have fallen. What could go wrong?
US Federal Reserve
It is still buying bonds on a grand scale.
In addition, the Federal Reserve will continue to increase its holdings of Treasury securities by at least $80 billion per month and of agency mortgage‑backed securities by at least $40 billion per month until substantial further progress has been made toward the Committee’s maximum employment and price stability goals.
There is an irony in that what it is buying is currently falling in price and what it is not buying has been rising in price. Oh Well! As Fleetwood Mac would put it.
The US Federal Reserve did announce a junk bond buying programme to quite a fan fare, but in the general scheme of things it tuned out to be minor.
Includes the market value of exchange-traded fund holdings under the SMCCF in the amount of $8,701,747,203 and the amortized cost of corporate bonds purchased under the SMCCF in the amount of $5,490,221,413,
So the Federal Reserve is in rather an awkward corner having put feints in both directions. On the 12th of January we looked at Atlanta Fed President Bostic who suggested bond purchases could slow ( a Taper) layer this year and markets seem to think he and others will stick to that view. On the other hand there was the Yield Curve Control issue where the Fed debated last autumn whether it would try to fix bond yields at a particular level. Some of those suggested have now come and gone.
The UK
The UK bond or Gilt market is quite strongly influenced by the US so it is no surprise that it has responded to. Regular readers will have got used to me mentioning that we do have some negative interest-rates as at the peak bond yields up to the seven-year yield were negative. That has been fading and as of this morning has gone.
The ten-year yield is now 0.7% and the fifty-year is 1.08% so has been moving on from when I pointed out the other day it was now over 1%. Again these are small moves but in such a highly stressed financial system they are significant.
All this has taken place in spite of the Bank of England weekly purchases of £4.4 billion of UK Gilts. They will buy another £1.48 billion this afternoon.
The Euro Area
The generic here is the bonds of its largest economy Germany and I write in that form as people read my articles over the years and should that continue by then there are roads that the largest Euro bond market will be Italy. Anyway the point is that there have been periods where every single German bond yield has been negative and many still are. The benchmark ten-year yield which plunged into a safe-haven party of -0.8% lasy March is now 0.32% and the thirty-year is now 0.2%. So not much in the latter case but a yield to be pad none the less.
Again we have seen this happen in spite of the large-scale bond purchases of the ECB. Only a bureaucrat would consider it a good idea to be running two programmes for the same thing at once, but anyway in the latest week they totaled 26 billion Euros.
We have a similarity and also a difference to the US. Something rather risky has been rallying recently ( the Italian bond market) but the difference with the US is that the ECB has been buying it as well.
Comment
There are various elements to today’s story and let me start with the good news bit which is that it is in response to a better economic outlook. The bad news is that it is also in response to higher inflation expectations which contrary to the official spinning will make us poorer.
But the subplot id for the central banks who have got used to being masters of the bond universe and now find what they would call a tantrum. It is happening in spite of what not so long ago we would consider to be very large purchases. Should it continue we will be finding out what areas cannot cope with it and it may be ones that surprise newer readers. But how would a pension fund invested in negative yielding bonds explain that when there is an actual yield? Some of the junk bonds are that because prospects for that company are well junk. Putting it another way we are observing what are both false markets as even the sovereign markets are nowhere near where they would be without all the QE.
One area which has not seen the benefit you might expect from this is the US Dollar but after rallying a bit seems to be doing this again.
Slip slidin’ away
Slip slidin’ away
You know the nearer your destination
The more you’re slip slidin’ away ( Paul Simon )
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