It has taken a month for global stock markets to notice, but there has been a slow motion train wreck in sovereign bond markets over the past month which has the potential to cause a lot of problems.
NAB Senior credit analyst Simon Fletcher wrote in a note to clients this morning:
the collapse has finally happened after a few weeks of wondering, self-doubt and then a blasé attitude that the rest of Europe could survive a Greek default, concerns escalated and led to a widespread selloff in both sovereigns and company credit.
That’s part of the reason that rates are selling off and also explains why stocks around the world are under pressure.
Fletcher’s colleague, NAB currency strategist Emma Lawson, told Business Insider the move in bonds and equities is also being fuelled by “higher oil prices, improved economic outlook, repricing from more easing to a more neutral cycle and periphery yields higher on Greece worries.”
That means that US 2-year rates have risen from 0.46 less than a month ago to 0.62% this morning. That may be only 16 points but its a huge capital loss to the holders of those bonds. US 10’s are up from 1.80% a month ago and 1.64% in February to last night close of 2.18%.
Likewise, even with the ECB buying up every bond it can get its hands on, German 10-year Bunds have backed up from a low of 0.049% 3 weeks ago to an incredible – in terms of impact on capital value – 0.51% overnight.
Even in Australia where the RBA has cut rates twice to a cash rate of 2% 2-year and 10-year bonds have been backing up. 10-year Australian government bonds are up from 2.23% in March to 2.95% today. The 2 year rate, where the RBA rate cutting rubber hits the road, has moved from 1.95% when the RBA eased in February, to a low of 1.64% in April, to today’s level of 2.11%.
The collapse in bond prices which has accompanied the rise in rates (prices being the inverse of rates) will have cost bond holders, investors, and traders a lot of money.
That’s got many traders worried because generally, almost always, it is interest rate/bond/credit markets which blow up other markets. Think about the Latin American Bond crisis, the 1987 crash, which I’d argue may have its genesis at the Bundesbank, the 1994 bond blow-up, the LTCM crisis, Asian crisis, and the first Russian crisis in the late 1990’s. Then of course we had the GFC, the bond market buble to beat all bond market bubbles.
The worry is in 2015 after years of zero interest rates, quantitative easing and low inflation, the recent recovery in commodities, Fed re-affirmation it plans to raise rates in 2015 and the increase in US wages, and associated tightness in the labour market, have materially changed the outlook for interest rates, and markets.
Separately DoubleLine’s Jeff Gundlach reckons that when the Fed starts hiking rates investors need to get out of high-yield bonds. He added bonds move “gradually then suddenly.”
That’s important because after years of rallying this bond market sell-off has hardly begun. So, as US and global bonds continue to sell off, the backup in yields looks like it has further to go if the notion that the inflation outlook has changed and the Fed will be raising rates takes hold.
Bonds, they are a-changing.
That’s dangerous for global stock markets, as we are seeing at the moment.