The unprecedented worldwide surge in the market for bonds that are certain to lose money if held to maturity regained strength last month.
The total face value of negative-yielding corporate and sovereign debt in the Bloomberg Barclays Global Aggregate Index of investment-grade bonds jumped to $11.6 trillion as of Sept. 30, up 6.1 percent from a month earlier. That sum had fallen for two months in a row from June’s $11.9 trillion peak.
Demand for the safety of high-quality bonds pushed up the totals in all but two of the 13 countries with more than $100 billion in negative-yielding debt. Italy’s tally shrank by 9 percent to $361 million and Denmark’s expanded more than a third to $104 million.
Japan, where policy makers moved in last month to coax yields up, remains ground sub-zero with almost $6 trillion, about half of the global total. Western Europe accounts for 47 percent, the bulk from France, Germany, the Netherlands, Spain and Italy.
Less than a seventh of the world’s negative-yielding debt is owed by businesses. Finance companies issued the bulk of those corporate bonds, almost 80 percent, with original face values totaling $1.3 trillion.
Sovereign and corporate debt totals include both new negative-yielding issues and bonds with prices that rose enough to push their yields into the money-losing zone. The Bloomberg Barclays Global Aggregate Index has a market capitalization of $48 trillion and includes investment-grade debt from 24 developed- and emerging-economy markets.
The benchmark gauge does not include maturities of less than a year, which tend to have lower yields, so the value of many short-term less-than-zero bonds aren’t counted in this story. Because the totals are based on as-issued amounts, they also don’t take into account a small amount of buybacks.
(Bloomberg) – The bust in commodities that’s roiling junk bonds is also taking its toll on funds that bundle corporate loans used to finance buyouts.The riskiest slices of collateralized loan obligations raised after the financial crisis plunged 9 cents on the dollar since September to about 58 cents at the end of last month, down from 84 cents a year ago, according to JPMorgan Chase & Co. Intensifying price declines in recent months have led to one of the “more challenging years in recent memory,” JPMorgan analysts Rishad Ahluwalia and Jacob Kurosaki wrote in a Dec. 11 note to clients.
CLOs purchase high-yield, high-risk loans and bundle them into securities of varying risk and return. Investors in the lowest-ranked CLO slices, also called the equity tranche, are first in line to absorb any potential losses. The sell-off comes amid concern about the creditworthiness of speculative-grade borrowers as volatility spreads beyond the energy sector.
“The price declines are alarming and worrying,” Ahluwalia, JPMorgan’s head of global CLO research, said in a telephone interview.
While CLO equity holders have continued to receive cash flow payments, the price drop signals investors are worried that their returns are imperiled by “stress” in the corporate credit markets, according to London-based Ahluwalia.
A retreat by CLO equity investors, who typically include hedge funds, will make it more difficult for managers to raise new investments, Ahluwalia said.
CLOs, being packages of crappy loans, are kissing cousins of junk bonds (which are individual crappy loans). So trouble in the latter would be expected to coincide with trouble in the former, which means the crisis hasn’t yet moved far afield. But that’s how these things work. For a localized bust to become systemic, it has to blow up the similar stuff before it can progress to instruments that aren’t directly related.
What’s next in line? Emerging market anything certainly, since there’s still that $9 trillion of dollar carry trade debt waiting to implode. And mid-range bonds — better than junk but worse than Treasuries — are certainly due for a revaluation. The question is where the dividing line will form between bonds that attract worried capital and bonds that repel it.
And then, inevitably, are the broad equity indexes. The dirty little secret of both junk bonds and equities is that they tend to behave in similar ways. One can, in fact, think of junk bonds as the equity of high-yield borrowers because when borrowers get into trouble their debt is frequently converted to equity.
A more complex question is what happens to the other holdings of hedge funds that are now being burned by junk and CLOs. Presumably they’ll have to raise cash by selling things that still have markets, which means they might end up dumping their higher-quality assets. Think about it: If you own some Google stock near its all-time high and some junk bonds worth maybe 20 cents on the dollar — assuming anyone will buy them at any price — which is a better source of ready cash?
In short, if junk is imploding, stocks can’t be far behind.
This article is written by John Rubino of Dollarcollapse.com and with his kind permission, Gecko Research has been privileged to publish his work on our website. To find out more about Dollarcollapse.com, please visit:
* U.S. funds are buying record amounts at Treasury auctions
* Surge in demand keeps funding costs low, raises doubt on rates
For all the dire warnings over China’s retreat from U.S. government debt, there’s one simple fact that is being overlooked: American demand is as robust as ever.
Not only are domestic mutual funds buying record amounts of Treasuries at auctions this year, U.S. investors are also increasing their share of the$12.9 trillion market for the first time since 2012, data compiled by Bloomberg show.
The buying has been crucial in keeping a lid on America’s financing costs as China — the largest foreign creditor with about $1.4 trillion of U.S. government debt — pares its stake for the first time since at least 2001. Yields on benchmark Treasuries have surprised almost everyone byfalling this year, dipping below 2 percent last week.
It’s not the scenario that doomsayers predicted would leave the U.S. vulnerable to China’s whims. But the fact that Americans are pouring into Treasuries may point to a deeper concern: the world’s largest economy, plagued bylackluster wage growth and almost noinflation, just isn’t strong enough for the Federal Reserve to raise interest rates.
“As you develop a more pessimistic view on global growth, inflation, andrates, asset managers are going to buy Treasuries in that environment,” saidBrandon Swensen, the co-head of U.S. fixed-income at RBC Global Asset Management, which oversees $35 billion.
Overseas creditors have played a key role in financing America’s debt as the nation borrowed heavily to pull the economy out of recession. Since 2008, foreigners have more than doubled their Treasuryinvestments and now own about $6.1 trillion.
China has led the way, funneling hundreds of billions into Treasuries as the Asian nationboomed and it bought dollars to limit the gains in its currency.
Now that’s changing.
This year alone, China’s holdings have fallen about $200 billion as it raises money in support of its flagging economy and stock market. If the pattern holds, it would be the first time that China has pulled back from Treasuries on an annual basis. The tally includesBelgium, which analysts say is home toChinese custodial accounts.
The People’s Bank of China directed questions on its Treasury holdings to the State Administration of Foreign Exchange, which didn’t reply to a fax seeking comment.
The Chinese pullback has led some to raise troubling questions about the U.S.’s ability to borrow and refinance its obligations atultra-low rates year after year. It’s also reignited long-held concerns, aired over the years by both Republican and Democratic politicians, that China’s ownership of U.S. debt is a threat to America’s independence.
Homegrown demand for Treasuries suggests there’s no reason to panic.
American funds have purchased 42 percent of the $1.6 trillion of notes and bonds sold at auctions this year, the highest since the Treasury department began breaking out the data five years ago. As recently as 2011, they bought as little as 18 percent.
As a group, U.S. investors of all types have also stepped up their holdings of Treasuries since they fell to a low in mid-2014. In 2015, that share has climbed 2.1 percentage points to 33.1 percent of the U.S. government debt market.
That might not sound like much, but the annual increase — which has pushed up Americans’ holdings to a record $4.3 trillion — would be the first since 2012.
“The worries about China selling are misplaced,” saidDavid Ader, the head of U.S. government-bond strategy at CRT Capital Group LLC. “This was one of the great fears of the bond market, and it’s happening and we took it in stride.”
While the appetite among Americans for the haven of U.S. debt has kept the government’s financing costs low, what’s worrisome is what it suggests about the health of theeconomy, according toGeorge Goncalves, the head of interest-rate strategy at Nomura Holdings Inc., one of 22 dealers that are obliged to bid at Treasury auctions.
Sure, the U.S. iscreating jobs, but a raft of disappointing indicators, fromretail sales to manufacturing, suggests consumers are scaling back just as overseas demand weakens.
And wages are stagnating for many Americans. Since the recession ended, average hourly earnings have increased less than in any expansion since the 1960s. Without higher wages to spur spending,inflation has remained stubbornly low.
The auction data shows that U.S. funds targeted 30-year bonds — those most vulnerable to rising growth and inflation — the most among interest-bearing Treasuries. That comes as traders are pricing in the likelihood the inflation rate willremain below the Fed’s 2 percent goal over the coming decade.
Yields on the10-year note, the benchmark for trillions of dollars of debt securities worldwide, were about 2.04 percent on Monday. That’s about a percentage point below where they were at the end of 2013.
Economists in a Bloomberg survey now see a 15 percent chance the U.S. will slide into a recession in the next 12 months, the highest estimate since 2013.
Investors in the U.S. “are making a decision based on their outlook and it’s a reflection of theeconomy as well as their risk aversion,” Nomura’s Goncalves said.
It also suggests the Fed policy makers may want to rethink their assumptions about the need to raise interest rates any time soon. While Fed Chair Janet Yellen has said she still sees the economy growing enough for the central bank to raise rates by year-end, traders are skeptical. They see only a 32 percent chance of a rate increase by December, while the odds of a March rise are at little more than a coin flip.
Some Fed officials are coming around to that view. Governors Lael Brainard and Daniel Tarullo both indicated this month the Fed should wait until clearer signs of inflation emerge.
“There’s no pressing reason for the Fed to hike rates and there are clear risks against a global backdrop that’s so fragile,” saidRobert Tipp, the chief investment strategist at Prudential Financial’s fixed-income unit, which oversees $533 billion.
* Buying helped push U.S. 10-year yields below 2% this week
* Probability Fed will raise rates by December meeting is 30%
U.S. banks are gorging onTreasuries in the latest sign investors expect the Federal Reserve to postpone raising interest rates.
Commercial lenders boosted theirholdings to a record $2.15 trillion at the end of last month, based on Fed data. The stake is almost double the amount owned by China, the biggest U.S. foreign creditor. Treasuries have been advancing since the middle of June, with 10-year yields dipping below 2 percent this week, on speculation the absence of inflation means policy makers will defer raising rates.
“As to why they’re holding all these Treasuries, the view of the Fed has changed,” saidAli Jalai, who trades bonds in Singapore at Bank of Nova Scotia, one of the 22 primary dealers that trade directly with the Fed. “Maybe they’re not going to raise rates this year.”
Benchmark 10-year note yields were little changed at 2.01 percent as of 7 a.m. in New York, according to Bloomberg Bond Trader data. The price of the 2 percent security due in August 2025 was 99 29/32. The yield may fall to 1.75 percent by year-end, Jalai said.
Treasuries returned2.1 percent this year through Thursday, after gaining 6.2 percent in 2014, based on Bloomberg World Bond Indexes.
Investors have been reducing forecasts for a Fed rate increase since August as inflation stagnates in the world’s biggest economy. U.S.consumer prices fell in September by the most since January, a government report showed Thursday.
Economists predictdata Friday will show industrial production fell last month and a gauge of job openings slipped from a record high in August, based on Bloomberg surveys. The Treasury is scheduled on Friday to release figures on overseas holdings of U.S debt and other assets for August.
Now is the time to seek higher returns outside the Treasury market, saidWill Tseng, a bond portfolio manager for Mirae Asset Global Investments.
“The Fed won’t hike for the next few months, but we’re still in a recovery path” in the U.S., said Tseng, who’s based in Taipei. “That’s the best position for high-yield and equity assets.” Mirae, which has $75 billion in assets, has been adding dollar-denominated high-yield bonds and emerging-market local-currency debt in October, he said.
The probability the Fed will increase rates by its December policy meeting has dropped to 30 percent from 70 percent odds at the start of August, according to futures data compiled by Bloomberg. The calculations are based on the assumption the effective fed funds rate will average 0.375 percent after liftoff.
* Euro region’s central banks trial Fed-like reverse auctions
* Lithuania does first purchases with France to follow on Friday
Bond investors, get ready for quantitativeeasing to mutate in Europe.
The European Central Bank this week started a limited pilot program to test out buyingbonds through auctions rather than approaching dealers one to one. Strategists say the system is designed to improve QE’s transparency and may eventually be rolled out across the euro region.
Two of the three central banks testing the new process on behalf of the 19 member states said they’ll release details of the securities to be acquired before they approach owners. Banque de France already published its firstshopping list on Tuesday ahead of an auction later this week.
“Auctions encourage competition, offer more transparency and concentrate market-wide liquidity,” said Haoxiang Zhu, assistant professor of finance at the Massachusetts Institute of Technology, who has studied this method of buying debt at the Federal Reserve. They are “usually more efficient than purchases done bilaterally in a decentralized fashion.”
The QE program has become the main driver of the euro zone’s bond market, with average sovereign yields tumbling to arecord within days of it starting in March. The program has been dogged by suggestions it erodes market liquidity and stokes volatility, while investors have said it makes it difficult to anticipate demand.
Central banks in the euro area have so far bought more than 340 billion euros ($389 billion) ofdebt under QE, which aims to boost inflation and growth by freeing up cash to circulate in the economy. Speculation is rife that officials will soon announce an extension of the plan beyond September 2016.
The pilot program uses reverse auctions, where potential sellers compete to undercut one another on price. The Fed used a similar system for its QE program. The ECB announced the trial on Oct. 5, saying it would be carried out “without prejudging in any way whether the Eurosystem would consider applying auctions more systematically.”
The French central bank published a list of ISINs, or International Securities Identification Numbers, ahead of its Oct. 16 auction, while the Dutch have pledged to do the same before their first purchases next week. The two banks said the Bloomberg auction system will be used to carry out the process.
“Higher transparency of the purchases is expected to encourage deepening of the securities market, as well as contribute to its smoother functioning,” Lithuania’s central bank, the third participant in the trials, said in a statement. It held the first reverse auction on Tuesday, said Mindaugas Vaiciulis, head of the market operations department.
The method will become “the norm” across the euro region,Antoine Bouvet, a London-based rates strategist at Mizuho International Plc, said in a note last week.
Others aren’t so sure.
Unlike the Fed, the ECB is hampered by not having a single debt market, according to Commerzbank AG, the biggest primary dealer in German government bonds. There are also limits on what euro-zone central banks can purchase, from not owning too much of a single issue to being prevented from buying securities yielding less than the ECB’s deposit rate.
“Reverse auctions can increase transparency, however they do reduce flexibility on behalf of the euro system, and this will probably make it challenging to implement this for the entire QE program,” saidChristoph Rieger, Commerzbank’s head of fixed-income research in Frankfurt. “There’s already a challenge to figure out where to buy, given the various restraints they have.”