Global Bond Market Update: Sovereign Yields and Inflation Are Up, But Credit Markets Remain Wide Open
From the United States to the United Kingdom to the eurozone, sovereign yields have risen significantly over the last month, albeit from extremely low levels.1 September’s upward trend in benchmark yields on both sides of the Atlantic is the first sustained increase since the start of the year, when the reopening/inflation trade was in full swing. This upward pressure stems partly from the Federal Reserve’s widely anticipated announcement that it will begin tapering its bond purchases following its next meeting in November, and partly from the hawkish surprise announcement by the Bank of England (BoE) that it could hike its policy rate before its quantitative easing program ends. Rising energy prices and supply chain bottlenecks have also had a role to play as OPEC+ has maintained production discipline, local governments in China have rationed energy, container ships continue to clog ports, and trucker shortages abound. These issues have constrained growth and raised prices, leading some market participants to raise the specter of stagflation.2, 4
However, the textbook narrative of central banks raising rates to combat inflation fails to encompass the nuances of the current situation. Indeed, European Central Bank (ECB) President Christine Lagarde has responded to the recent 13-year high in eurozone inflation with relative dovishness, noting that temporary supply shocks are driving price increases, while inflation expectations remain anchored and wages have shown no signs of spiraling upwards.3 Similarly, despite a willingness to begin tapering the Fed’s $120 billion in monthly purchases of U.S. Treasury securities and agency mortgage-backed securities, Chair Jerome Powell has echoed the ECB’s sanguine view on inflation expectations and the transitory nature of current supply shocks.5 That said, it wasn’t lost on the market that half of the Federal Open Market Committee (FOMC) believes the Fed’s policy rate will rise by the end of next year, up from a minority in June. Notably, the U.S. once again faces the unique and recurring crisis that is the debt ceiling debate, which has sent tremors through the U.S. Treasury bill market as legislators chart a path to increasing the US Government’s borrowing authority.
Given this backdrop, September was not a particularly pleasant month to be a bond investor. The FTSE 3-Month Treasury Bill Index posted a 0.00 percent return, while the Bloomberg US High Yield Corporate Index was down 0.01 percent. The Bloomberg US Aggregate Bond Index gave up 87 basis points (bps), while the Global Aggregate (unhedged) was down 1.78 percent. U.S. Treasurys fell 1.08 percent, and Global Treasurys fell 2.20 percent.6 Add in a default by the biggest real estate developer in China, and it would be reasonable to expect that credit markets would be clamming up. Perhaps counterintuitively, the credit markets, even the junky ones remain wide open. Last week, bankers began marketing $7.8 billion in high yield bonds and $7.0 billion in loans for a leveraged buyout (LBO) of Medline Industries Inc.7 The bond issuance is the largest in the U.S. dollar junk space since 2015 and suggests that the choppiness in the sovereign markets hasn’t slackened investors’ demand for risk to the point that giant LBO deals can’t get done at reasonable spreads.
1. Kate Duguid and Tommy Stubbington, “Global bond market set for worst month since early 2021,” Financial Times, September 28, 2021, https://www.ft.com/content/42e62e77-f830-4e5a-895f-7837a72847b0
2. Alex Lawler, Ahmad Ghaddar, and Olesya Astakhova, “OPEC+ sticks to plan for gradual oil output hike, price roars higher,” Reuters, October 4, 2021, https://www.reuters.com/business/energy/opec-seen-keeping-oil-output-policy-unchanged-opec-sources-say-2021-10-04/
3. Martin Arnold, “Christine Lagarde sets ECB apart in central banks’ shift to tighter policy,” Financial Times, September 28, 2021, https://www.ft.com/content/81c48cca-7e11-4888-b633-511996789648
4. Emily Feng, “Why China has to ration electricity and how that could affect everyone,” NPR.org, October 1, 2021, https://www.npr.org/2021/10/01/1042209223/why-covid-is-affecting-chinas-power-rations
5. Nick Timiraos, “Powell Says Supply Chain Bottlenecks Could Lead to Somewhat Longer Levels of High Inflation,” Wall Street Journal, September 29, 2021, https://www.wsj.com/articles/powell-says-supply-chain-bottlenecks-could-lead-to-somewhat-longer-interval-of-high-inflation-11632934764
6. Alex Harris, “Biden Warning Ratchets Up Jitters: Debt Ceiling Anxiety Tracker,” Bloomberg, October 4, 2021, https://www.bloomberg.com/news/articles/2021-10-04/treasury-bill-curve-bends-to-new-government-insolvency-date?srnd=premium
7. Paula Seligson, “Medline Begins $7.77 Billion Junk Sale to Fund Jumbo Buyout,” Bloomberg, September 27, 2021, https://www.bloomberg.com/news/articles/2021-09-27/medline-kicks-off-7-77-billion-junk-bond-to-fund-jumbo-buyout
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