This week’s spike in 10-year US treasury yields appeared to take markets by surprise and left some investors wondering if the move is a foretaste of a more volatile year to come for global asset markets.
The yield for 10-year US treasuries climbed to a 10-month high of 2.59 per cent on Wednesday before retreating to a more palatable level later in the day.
The move hit stock markets as well, with US markets on Wednesday snapping a winning streak that started at the beginning of the year and Australian stocks falling for two straight sessions.
Ian Martin, chief investment officer of Australian Corporate Bond Company, said that the spike in 10-year US treasury yields was initially triggered by the Bank of Japan buying fewer bonds than expected earlier this week.
Later reports indicating that China is looking less favourably on US Treasuries gave US 10-year yields another push higher, he said. Bond yields move inversely to prices.
The Bank of Japan’s lacklustre bond-buying effort appeared to trigger broader worries about the implications for markets when the massive bond-buying programs launched after the global financial crisis by central banks to support the global economy eventually come to an end.
“The market is trying to understand the end of quantitative easing and what that will look like,” Mr Martin said.
“People are now looking for the turning point. They are trying to work out what happens when this long bull run ends,” he said.
Along with the Bank of Japan, the European Central Bank has also been buying massive amounts of bonds, noted Antipodes deputy portfolio manager Sunny Bangia, while pointing out that Greek bonds are now yielding less than Chinese bonds.
“That’s telling you how aggressive the buying has been in Europe and a similar thing has been happening in Japan,” he said.
Europe and Japan have been bond buyers “at any price”, he said, adding that the two central banks have succeeded in sucking supply from their domestic markets.
Given the distortions that central bank buying appear to have created in the bond markets, “we think that moves in bond markets could potentially be more violent than investors are anticipating”, he said.
“That will impact our market through increased volatility.”
Infrastructure firms that have been benefiting from low interest rates have become well priced and could be vulnerable at these levels, he said.
“We feel that’s been a big part of where investors have been hiding in Australia,” he said.
The tick higher in US bonds this week came as investors were already trying to factor in the implications for US tax reform and signs that economic growth is improving in a synchronised fashion around the world.
Broadly, central banks are becoming more comfortable with growth, said Mr Bangia. “Don’t expect the European Central Bank and the Bank of Japan to buy bonds forever,” he said.
Mr Martin pointed out that the sell-off this week in the bond market took place at the long end of the interest rate curve rather than the shorter end, which, in Australia, is anchored to the Australian central bank.
“The market pricing for rate expectations from the RBA is basically unchanged from where it was at the end of last year,” he said.
Friday’s data on US consumer inflation will be the next important data point for markets, he added.
Morgan Stanley strategists said that they believe that the shape of the yield curve continues to loom in the back of equity investors’ minds.
“The flatter shape than what would have been expected in a world that has seen the Fed raise rates three times in 12 months has an equity market on the lookout for both behind-the-curve dynamics (if inflation surprises) or conversely a move into inversion.
“With the US 10-year yield again approaching a three-year resistance level of 2.60 per cent, this week’s US CPI and reaction may tell us much about valuation sentiment for equities,” they said.
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