Collapse of bonds and risky assets-Budrigantrade Review
2023.03.01 12:23
Collapse of bonds and risky assets-Budrigantrade Review
A sign that riskier assets will likely be next in the firing line is the selling that is engulfing the largest bond markets in the world due to concerns that persistently high inflation will keep central banks raising interest rates for some time.
After all, given the solid economic data, markets have put aside the possibility of a sharp economic downturn if central banks raise rates for longer than anticipated.
This indicates that equity and credit markets, which have so far performed well, may soon be impacted by bond pain.
Following similar shifts in U.S. money markets, this week’s stronger-than-anticipated February inflation data from France, Spain, and Germany have led traders to price European Central Bank rates near a peak of 4%.
As a result, 10-year bond yields have reached levels not seen since the euro area’s debt crisis in 2011 and 2012. However, European shares are not far from their all-time highs.
Even though they went up by almost 40 basis points in February, which was their biggest increase since September, they only ended the month down 2.6% and are up almost 3.5% so far in 2023.
Mark Dowding, chief investment officer of BlueBay Asset Management, stated, “We are starting to reach a level in pricing on rates that any move up in yields is becoming more problematic.”
Dowding stated, “There will be a landing for the economy, and if we see more robust data and inflation staying high it will bring the idea of hard landing back into prospect,” noting that he had closed out of a position betting on further weakness in longer-dated bonds and turned more negative on risk assets. “There will be a landing for the economy,” he added.
The BlackRock (NYSE) in its weekly note: According to the Investment Institute, it favored investment-grade credit and short-term government bonds over long-term government debt and underweight developed market stocks because “they’re not pricing the recession we see ahead.”
On the strength of the data, expectations that inflation would fall and that central banks would soon be able to stop aggressively tightening had already changed in February.
However, Europe has led the rise in expectations for a rate hike this week. Germany’s price pressures have not subsided, according to data released on Wednesday. On Tuesday, Spain and France reported unanticipated increases in inflation.
In a rare occurrence, a key indicator of the market’s long-term inflation expectations for the euro zone has increased to 2.51%, the highest level in more than a decade.
Deutsche Bank (ETR:) anticipates inflation in the US market versus the euro. Given that just a year ago there were doubts about whether the ECB would be able to raise rates at all and German Bund yields briefly turned negative as war broke out in Ukraine, strategist Jim Reid stated that the rates repricing in Europe was “pretty astonishing.”
In contrast, the short-term borrowing costs of German and American bonds are still significantly higher than those of their longer-term counterparts, a classic indication of a coming recession.
“To achieve inflation levels that are comfortable, major economies still have a long way to go. According to Bruno Schneller, a managing director at INVICO Asset Management, “fixed income markets have adjusted in response to the fact that policy rates are still at risk of remaining higher for a longer period of time.” When considering the possibility of prolonged higher interest rates, equity markets appear expensive.”
Swiss Re’s (OTC:) head of macro strategy, Patrick Saner added that risk assets became less appealing as a result of rising yields on government bonds.
He noted that for the first time in roughly 20 years, a traditional 60/40 portfolio of stocks and bonds yields less than six-month U.S. Treasury bills.
The yield curve in the United States is deeply inverted, and while higher yields are still seen as an opportunity for buying, government bonds were seen as vulnerable to further selling.
BofA co-head of fixed income, currencies, and commodities trading Snigdha Singh anticipated that investor allocations would return to bonds, particularly in Europe, where negative yields had vanished.
“At the moment, German 10-year bond yields are above 2.70 percent on sovereign markets. Therefore, I would certainly anticipate seeing such allocations,” Singh stated.
Rohan Khanna, a strategist at UBS, stated that he was “very doubtful that the ‘bonds are back’ theme is going to die” and that he suspected investors still desired exposure to debt with longer maturities.
