November 27, 2022

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Global Bond Markets vs. Worst Year Since 1999 - Chief Strategist Surprised That Things Didn't Die

Global Bond Markets vs. Worst Year Since 1999 – Chief Strategist Surprised That Things Didn’t Die

Markets in which government bonds and corporate loans are traded are down 4.8 percent so far in 2021, writes financial times.

The figures come from the Barclays Global Bond Index, an index with a total market capitalization of $6,800 billion. The newspaper wrote that this fall is the largest since 1999.

In these markets, loans issued by companies or governments are traded, and investors can buy, buy and sell shares of them just like stocks. In addition, an interest rate is paid to the investors for the loan. Bonds are usually sensitive to inflation, and the reason for the decline, according to the newspaper, is mainly the rise in global prices during the year.

Most surprisingly, Christian Lee, chief strategist at Wealth Management, thinks bond markets “haven’t gone down any further”.

With the high growth rate in the global economy, especially in the United States, and the growth of consumer prices in the United States by nearly seven percent, warning the Federal Reserve of accelerating the reduction of bond purchases and three interest rate increases in 2022, it is somewhat distinctive that the States The US ten-year government interest rates are still trading at 1.5 per cent. Writes in an email to the DN.

Two exciting events

Two periods of government bond dumping are also to blame: just when investors chose to “think” in the new year, that is, collecting corona would be for a period of healthy inflation and growth in the economy, thus dumping long-term government bonds.

In the fall, bond investors dumped short-term government bonds when a number of central banks announced interest rate increases to deal with accelerating inflation. Despite the fact that central banks such as the US Federal Reserve announced several interest rate hikes next year and waived support for their securities purchases faster than previously expected, inflation only persisted in both the US and the eurozone.

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Lee believes that bonds are being challenged from many angles.

– The current low interest rate level provides less buffer to absorb the increasing interest rates in the market before the yield turns negative, and for corporate bonds with a high credit rating, the risk premiums are very low, leaving more room for them to rise rather than decline additionally. In addition, lower interest rates and a greater willingness to take risks among investors have led companies to issue bonds that pay less and less for financing, and thus have an incentive to secure increasingly longer maturities on bonds, Lee writes.

Companies are happy with this, but it also means record-high interest rate sensitivity in global bond markets, according to Lee. He points out that investment grade bonds, that is, loans considered less risky, have an average term of 7.8 years.

An interest rate increase of 1 percentage point over market interest rates with a similar maturity would result in a 7.8 percent decrease in the bond price – assuming no change in risk premiums. Lee believes that a sharp and unexpected increase in investors’ interest rate expectations in the future may lead to bigger moves in global bond markets than we have seen this year.

two questions

The US Consumer Price Index (CPI) rose 6.8 percent year on year in November, while the revised CPI for energy and food prices (core inflation) rose 4.9 percent. For kpi, this was the highest number in nearly 40 years.

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The reasons for this are global supply chain problems that arose during the Corona pandemic, as well as a sharp increase in energy costs that severely affected global energy prices this fall and winter.

For me, the interest rate and inflation situation leads to two key questions for 2022:

  • Why are market interest rates still at relatively low levels, even with high inflation?

Some will point out that investors believe that the measures announced by the central banks, led by the United States, will be enough to curb inflation fairly quickly, and may also have negative consequences for the economy if they tighten too much. Thus, investors are claiming less compensation for inflation risk when they buy longer government bonds, Lee says.

Central Bank Governor Jerome Powell announced in mid-December that he would step down from the Fed’s support purchases during the coronavirus pandemic faster than previously expected.

Lee also thinks that one explanation for the first question might be that those who are now buying government securities with a negative real return are market players that are less price sensitive – such as short-term players who trade changes in yield curves, and institutional investors who must have a stake in the securities. Government finances regardless of the price, or central banks that support the purchase of government bonds.

Players like this help keep demand for government bonds high, interest rates low and at the same time disrupt the effects of signals from the bond market on inflation and future economic growth, he says.

  • How will central banks react if inflationary pressures remain high?
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There are divided opinions on what central banks will prioritize, but the signal so far is that they are more apprehensive about the negative effects of the new financial crisis. So, in 2022, we can see that interest rates will continue to appear low compared to the level of inflation. Lee writes that if inflation declines, it can be justified, but if inflation remains high, central banks will have to make some hard choices that could have major consequences for bond markets in particular, and financial markets in general.

He believes that the interaction between changes in interest rates and risk premiums on loans will determine the bond’s future yield.

For many categories of fixed income investments, there is no way out that the return has to be weaker before it improves again. However, bonds have less risk than stocks, and should be kept as part of a long-term investment portfolio to reduce risk, he believes.

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