Yields on long-term Treasuries have been skidding, despite rising inflation. As I’m writing this, the 30-year Treasury bond yield dropped another 3 basis points today to 3.25%. That’s the yield investors are eager to lock in for the next 30 years. Yet the Consumer Price Index is now 2.1% higher than it was a year ago and gaining upward momentum. Thirty years is a very, very long time, and normally, sane investors would want to be compensated for the risks associated with it.
But not anymore.
The 5-year Treasury yield at 1.66% is below inflation, guaranteeing investors a loss in purchasing power while allowing the government to borrow for free (or rather, at a profit).
This has been the goal of the policies the Fed has been inflicting on fixed-income investors: financial repression. It occurs when fixed-income investors go nuts because they’re forced – there not being any other options for them – to buy investments that are guaranteed to lose them money after inflation or, to get a slightly higher yield, take on risks that may wipe them out.
And the difference between 5-year and 30-year Treasury yields, the yield spread, is down to 1.59 percentage points, the lowest since February 2009 – the flattest yield curve since then – a time when all heck had broken lose, and financial markets were going haywire.
On the front end of the yield curve, investors have been eaten alive by inflation. But now they’re ever so slowly – and probably way too slowly – beginning to price in rate increases by the Fed. On the long-end of the yield curve, the opposite has been happening. Which leaves a lot of people scratching their heads.
Long-term yields are said to be impacted by notions of where the global economy might be heading, with low yields indicating there’s a consensus among institutional bond buyers that global growth is sinking into quicksand. But this nexus is very tenuous, and other factors are likely at play. But what are these institutional investors so worried about? Or have they been driven completely nuts?
“But who the heck is still buying?” grumbled Cali Money Man, a wealth manager at a megabank who has been on the job during the past three crashes, and one of the guys who has been scratching his head over the issue.
“If Street estimates of rates – i.e., GDP and inflation – are correct, long Treasuries have a large negative 1-year expected return,” he said. “Even more so over the following few years, as the Fed increases rates.”
It should turn rational investors – which is what institutional investors are supposed to be – away from those reeking securities. But no.
“I doubt it’s a flight to safety,” he said. “Assets with expected negative 1-year returns are not safe.”
Hard to argue with, if “safe” is defined as not losing money.
“At worst, they’d buy the 1-year or 2-year, or maybe the 5-year, but not the 30-year,” he said. Not at these yields.
This hasn’t been lost to UBS, the world’s largest wealth manager. It is “very worried” about “the lack of liquidity” that could wreak havoc during the expected sell-off. So UBS reduces risk “over the full spectrum of assets.” Read…. UBS Warns Everything Is Overpriced, Prepares For Sell-Off
Enjoy reading WOLF STREET and want to support it? You can donate. I appreciate it immensely. Click on the beer and iced-tea mug to find out how:
Would you like to be notified via email when WOLF STREET publishes a new article? Sign up here.
Ever since the flash crash in bonds traders got a taste of what a real flight to the dollar looked like. It was 1997 all over again for several day?
Larry scudlow was yapping today about using the treasury to de-stablize the Rubble and start WW3 on CNBC. SOOOOO I think corparate bonds again and hold tight because ANYTHING DOLLAR IS LOOKING TO COME HOME while non dollar assets are wishing they were dollars?
Shorting dollar and buying long bonds and pocketing the spread and not people like me cringing fear going on 10k days of bond porn including most sat and sun. I look around and feel after last year even the mention of higher rates are stamping down growth and once taper is done money will flood into treasuries and anything American paper! Taper is inviting EU to arbitrage the yield curve and JANNIE IS SITTING ON A DOWERY! And we export money to Europe so they can party most summers ON SARDINIA
I, too, am bewildered why bonds can yield less than money depreciation…but then I also believe that a credit-based monetary system cannot hyperinflate because an pre-existing ocean of debt (IOU’s) can always lose value at a rate above what the credit pushers can attempt to bubble-up.
For 80 years or so of continuous, compound credit inflation, savers were always losing ground if you combined inflation and taxes on their phantom “gains.” Even when MMF’s yielded 16%, inflation was right behind and then the IRS took a huge chunk of that yield back, at the point of a gun. The whole thing was con artistry writ large–political slavery by any other name stinks the same.
Today has a “held breath” waiting feel to it; the last fools available to keep credit growing by borrowing it into monetary existence are Congressmen (the ultimate committee, all butts and no heads) and rank speculators who have sell-stops intended to hand off any hot potatoes should the rally falter. While Japan’s experience suggests that governments can QE and inflate to the moon even in a credit-monetary system, theirs may be a one-off. The USA would turn rapidly into the Land of the Speculator and Home of Nobody Working (or maybe that’s what is happening anyway.)
I still think the Next Big Wave (this year? next year? soon?) will be a herd-stampede panic when it suddenly becomes fashionable to realize that all the IOU’s cannot be paid, and rolling them over becomes instantly impossible. The collapse in bond value (and monetary-deflationary collapse) at that point should induce Charles Mackay to rise from the dead to issue a 3rd edition of his Extraordinary Popular Delusions and the Madness of Crowds, chronicling how billions of people could share the delusion of today.
Bond prices may be rising because of the Fed-induced shortage of collateral, both through QE and tighter banking regulations. Repo rates for some bonds have been as low as -3%. That’s how distorted the supply/demand situation has become.
Failures to deliver:
2014 $65.6 billion (one week last month it almost hit $200 billion)
2013 $51.6 billion
2012 $28.8 billion
No collateral, no repo market. No repo market, well, hello 2008.
The fails in the repo market have been largely in the 5 and 10 year space, plus short term bill issuance by the federal government has slacked off.
I think that’s why Fed doves like Yellen and Dudley have been trying to convince people they plan to raise rates. The reasons they cite are blatantly superficial (such as “declining unemployment) and aimed at trying to shake some bonds loose.
NB: Failures to deliver are the weekly averages.