Government bonds rally amid mounting economic gloom
Investors piled into government bonds on Wednesday after a trio of central banks slashed interest rates, China’s currency weakened further and fresh warning signs emerged over the health of the German economy.
US Treasuries, which benefit from looser monetary policy and are typically seen by investors as a haven in times of market stress, extended their recent rally, with the yield on the 10-year benchmark bond falling 11 basis points to as low as 1.625 per cent, its lowest level since October 2016.
US stock futures deepened their declines and pointed to losses of about 0.7 per cent for the S&P 500 at the opening bell.
The moves in the bond market came as central banks in India, New Zealand and Thailand signalled concerns over a slowing global economy by cutting interest rates by more than expected. A steep fall in German industrial production also raised fears that the eurozone’s largest economy could be heading for its first recession in six years.
US Treasury yields have fallen 39bp this month alone as trade tensions between Washington and Beijing have escalated.
Joachim Fels, global economic adviser at bond manager Pimco, said Treasuries could go negative when the world economy next enters a prolonged slump. “If trade tensions keep escalating, bond markets may move in that direction faster than many investors think,” he said.
German 10-year Bund yields, already well below zero, fell a further 6bp to minus 0.598 per cent, while UK 10-year gilts fell 7bp to touch a fresh record low of 0.440 per cent.
The move into bonds comes amid a wave of action from central banks.
The Reserve Bank of India cut rates by 35bp, a bigger move than had been expected, New Zealand’s central bank aggressively cut its benchmark policy rate to a fresh all-time low, prompting the local currency to fall sharply, and the Thai central bank unexpectedly cut rates.
“As trade war tensions rise and the ripples are felt across global markets, overnight saw a further sign that central banks seem fixed on a race to the bottom,” Rabobank said.
Traders now expect the Federal Reserve to cut rates by 110bp from the current level by the end of next year to 1.045 per cent, according to data on the federal funds futures market.
The deep cut to the central bank’s main rate would be in addition to the 25bp reduction agreed by policymakers last week. Participants in the futures market had been forecasting as recently as April that the rate would finish next year at 2 per cent.
Expectations for sharp cuts from the Fed has placed pressure on other central banks, particularly those in emerging markets, to reduce their rates to keep local currencies from appreciating too sharply. The market value of outstanding negative yielding bonds is now at a record $15tn, according to Barclays.
“These aren’t even terrible economies. Not like, say, Germany,” said Kit Juckes, a macro strategist at Société Générale, referencing the fresh German industrial production data.
Spiralling trade tensions were back in focus after the People’s Bank of China set the renminbi daily reference rate at very close to, but just below, the Rmb7 mark at 6.9996, its weakest level since 2008.
The currency, which is permitted to trade 2 per cent on either side of the central bank’s rate, fell 0.3 per cent to Rmb7.0419.
China allowed the currency to fall past Rmb7 per US dollar on Monday for the first time since May 2008, a significant escalation in its confrontation with Washington, leading the US Treasury to label China a currency manipulator.
European markets gave up some of their earlier gains but traded higher — the Stoxx Europe 600 was up 0.2 per cent. Stocks in Asia were stable, while havens remained in demand, with gold and the yen both strengthening.
“The bond market has been at odds with the equity market for the better part of 2019,” said Jordan Sriharan, investment director at Canaccord Genuity Wealth Management.
“The bond market remains scared that all this political posturing will impede short-term global economic growth, and in turn force looser monetary policy from the central banks.”