Government debt from the US to Germany to Japan plunged last week, shattering a calm that pervaded bond markets for months, as concern escalates that central bankers globally are reconsidering the efficacy of extending monetary stimulus that’s driven yields to record lows.
Longer-dated securities, which have been outperforming in recent months, led losses, with 30-year Treasuries recording their biggest two-day selloff in more than a year. ECB President Mario Draghi said on Thursday that officials didn’t discuss an extension to the institution’s bond-purchase plan, disappointing investors who had been speculating that more stimulus was imminent.
In July, Bank of Japan Governor Haruhiko Kuroda opted against expanding the nation’s unprecedented easy money policies, fuelling speculation that the BoJ plans to change its asset-purchase strategy.
The drastic decline in bond prices this week caught most investors off guard, serving as a reminder that there are limits to the global easing that helped push yields on more than $9tn of developed-market sovereign debt below zero this year. The lack of commitment from Japan and Europe to increase their asset-purchase targets threatens bond bulls who face potentially higher interest rates in the US as soon as this month.
Treasury 10-year yields rose to the highest since June on Friday as German 10-year bund yields turned positive for the first time since July.
“The market was very complacent – once we did get moving, people were scrambling to hedge,” said Timothy High, US strategist at BNP Paribas in New York, one of 23 primary dealers that trade with the Federal Reserve. “The cobwebs of the market have been shaken loose.”
The longevity of the selloff hinges on several events in the next two weeks. The US will flood the bond market with issuance on September 12 with simultaneous auctions of three- and 10-year notes, the first time this year that two fixed-rate note sales occur simultaneously. Economic data next week include reports on retail sales and consumer prices. Fed officials meet September 20-21 to decide the path of US interest rates.
Treasury 30-year bond yields rose 12 basis points, or 0.12 percentage point, to 2.39% last week, the biggest increase in five weeks. The price of the 2.25% security due in August 2046 was 96 29/32. The difference between yields on Treasuries due in two and 30 years, a gauge of the yield curve, widened to 161 basis points, the most on a closing basis since August 3.
“We’re seeing the central-bank policy uncertainty translate itself into steeper yield curves, which at the end of the day isn’t going to be stimulative,” said Robert Tipp, chief investment strategist for the fixed-income division of Prudential Financial in Newark, New Jersey. “The end result is some retracement of the increase in yields, and Treasuries stabilising. But it’s unclear right here how far yields are going to go before that happens.”
Hedge funds and money managers reduced their net bullish bets on Treasury bond futures to 24,134 contracts in the week to September 6, the lowest since March, according to data from the Commodity Futures Trading Commission.
Fed policy makers are looking to raise interest rates after liftoff from near zero in December. Officials entered 2016 expecting four hikes this year but have since pared projections amid signs of sluggish global economic growth.
Futures pricing indicates a 30% chance of tighter policy this month, according to data compiled by Bloomberg. The probability of a hike by year-end was 60%. The calculations assume the effective fed funds rate will average 0.625% after the central bank’s next boost.
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