What’s going on?
Long dated government bond yields around the world have spiked over the last few weeks as investors are demanding higher returns to hold government debt.
The yield on 10-year US treasury notes, one of the world’s most influential rates, reached 4.8% this week, and the 30-year bond is around the highest it’s been in two decades.
The UK has also seen its 10-year gilt rise to 5.3%, the highest since 2008, with its 30-year gilt at a 28-year high at 5.89%.
And increased yields on long-term bonds have also been seen in Canada, Japan, France and Germany.
Why is this happening?
There are global issues driving this. There’s an expectation that central banks will have to increase interest rates in the coming months, and bond investors are selling because of it.
Inflation fears are fuelling the sell-off. The US-Iran war has pushed up the oil price, but more fire exchanged between the two countries recently shows that peace, stability and unrestricted movement of oil and gas tankers in the Strait of Hormuz is far from settled.
Spending increased during the pandemic, with many countries facing rising welfare bills as their populations age. Plus, many nations have increased, or plan to increase, their defence spending.
In the US, the national debt has breached $40tn for the first time, outpacing previous estimates, causing concerns for bond investors who think the country’s spending is out of control.
Additionally, AI and tech companies have been raising investment, and they’ve been asking for large amounts. The yields and quality of debt they’ve offered have been more attractive than national debt, so they’re competing with governments for investor’s capital.
Alphabet, Amazon, Meta and Oracle have issued over $220bn of debt this year, double the amount last year. That’s pushed global corporate bond issuance to $4.9tn to date, 14% higher than this time last year.
What are governments doing?
The US stepped in last month to try and cool down yields by buying back long-term debt, but this had little impact. It had to issue short-term debt to cover this, so it was effectively just moving the money around without addressing the problem.
The European Central Bank also has similar powers to do bond buybacks.
However, many economists believe that, unless debt is brought down or growth is boosted, central banks will have to raise interest rates.
What’s the impact?
For Governments, it’s increasing the cost of borrowing. Andy Burnham will have to provide a budget for the UK next month, but this extra cost of borrowing will eat away at his fiscal headroom. He’s promised to not fund government spending by increasing borrowing, so, taxation and cost cutting might be his only options to raise money for any spending plans.
France is also looking at further battles over its budget. And Japan is facing scrutiny over its investment plans.
As a result, investors could see increased rates on mortgages and loans, and increased annuity rates.
Investments in long-term bonds will have seen falls, but higher yields can also drag on stock performance. They sometimes make bonds appear more attractive than shares, especially for companies where the earnings potential lies in the future.
Our approach
We’re confident in our investment approach across our portfolios.
In our solutions, we previously changed the Government Bond portion of our solutions, moving part into Short-Dated Bonds with lower interest rate sensitivity. Portfolios are better insulated from the risk of yields rising higher, but if things get better quickly, they’ll benefit from changes in interest rate expectations. We’ve seen the benefits from this approach already.
We also see the importance in Alternatives as an asset class, especially in times of inflationary pressure.
This part of our portfolios is designed to perform differently to bonds and equities at times of stress. Alternatives can offer protection from inflation in events like this. Before the war, we took this asset class overweight because we saw higher global inflation risks.
If you’d like to hear more about our view of markets, join our Let’s Talk Markets webinar on Tuesday 8th September at 11am.
This article is for financial professionals only. Any information contained within is of a general nature and should not be construed as a form of personal recommendation or financial advice. Nor is the information to be considered an offer or solicitation to deal in any financial instrument or to engage in any investment service or activity. Parmenion accepts no duty of care or liability for loss arising from any person acting, or refraining from acting, as a result of any information contained within this article. All investment carries risk. The value of investments, and the income from them, can go down as well as up and investors may get back less than they put in. Past performance is not a reliable indicator of future returns.
