Investor Nervousness
Grows on the U.S. Bond Market
"A
stir was caused by news that, for the first time since 2008, the largest
private investor in bonds, Pimco,
no longer holds any U.S. government bonds. Pimco Fund manager Bill Gross wrote in his
forecast, “Yields may have to go higher, maybe even much higher, to attract
buying interest."
Frankfurt: On the U.S. bond
market, nervousness is spreading. Investors fear that an increase in global
inflation and concerns about government debt may soon cause long-term interest
rates to rise. For the moment, yields on government bonds are at historically-low
levels: on Thursday evening, 10-year bonds were at 3.45 percent. Just prior to
the outbreak of the financial crisis in the summer of 2007, the rate still
fluctuated between 4.5 and 5.0 percent.
A stir was caused by news
that, for the first time since 2008, the largest private investor in bonds, the
Total Return Fund from Allianz subsidiary Pimco, no longer holds any U.S.
government bonds. Fund manager Bill Gross wrote
in his forecast, “Yields may have to go higher, maybe even much higher, to
attract buying interest.”
Gross is not alone in his
skepticism. “Our international funds de-emphasize U.S. treasuries,” said
Bettina Mueller of Deutsche Bank subsidiary DWS. “The U.S. debt makes the bonds
too expensive.”
Behind these statements lies
the fear that, this time around, the markets won't be able to absorb the end of
U.S. government bond purchases by the Federal Reserve as successfully as they
did in September 2009. At that point in time, the first program of $300 billion
was due to expire. Thereafter, yields decreased because the U.S. economy had
barely recovered and the risk of a rise of inflation appeared to be low. Normally,
more significant growth and higher prices lead to higher yields. That’s because
investors demand compensation for inflation risk - and because government bonds
become less attractive during an economic upswing.
With real tension, investors are
looking ahead toward this summer, when the FED's current program to buy up over
$900 billion in bonds will expire. According to the FED, its holdings of U.S. Treasury
Bonds rose by $423 billion to $1.177 trillion from July to February. And this
when the Treasury had already added half of all new instruments of government
debt to their balance sheet during the same time period: The FED has become
Washington’s largest financier. The sum total of all outstanding government-related
debt rose during the same period by $858 billion. Looking at figures through
December, paper valued at $314 billion went abroad. Foreign investors, however,
especially central banks like China's, continued to expand their holdings of
U.S. government bonds at the previous year’s rate of 20 percent, a rate that roughly
corresponds with rises in total debt. So it’s likely that the FED's purchases
edged out domestic purchasers like Bill Gross.
So next summer, the important
question will how much of a return will private American investors expect on
new government securities. Foreign central banks could feel some anxiety. A
former consultant for China’s Central Bank, for instance, cautioned Washington
against defaulting on payments and called on the People’s Republic to stop buying
U.S. Treasury Bonds.
Posted by WORLDMEETS.US
At the same time, strategists
point to a special feature that could speak for higher returns. “Interest rates
have always increased when the FED has made such purchases, and decreased when
the FED didn’t,” says Hajime Kitano of JP Morgan. Many analysts explain this by
saying that investors anticipate purchases by the FED. But Kitano blames it
primarily on weak growth and low inflation: “The key question for the bond
market has less to do with the [FED's] second purchase program than with the
fact that we expect a change in the FED's monetary policy.”
Jim O’Neill, head of Goldman
Sachs Asset Management, warns that the U.S. monetary authorities may have been
forced to raise their key interest rate earlier than previously expected. This
is due to inflationary risks in the emerging markets. For O’Neill and many
other strategists, this scenario brings back dark memories of 1994. At the time,
the FED was forced to react with a swiftness that investors didn't anticipate.
This triggered a bond sell-off that drove up interest rates by 2.4 percent to 8.0
percent in just eight months. According
to Bloomberg News, the median rate projection of 53 economists is 4.25 percent
for the second quarter of 2012.
