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One by one, global bond markets are flashing the same warning

Bloomberg logoBloomberg 3/25/2019 Ruth Carson and Stephen Spratt
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Wherever you look in developed markets, sovereign bond yields are at their lowest levels in years as traders ratchet up bets that major central banks will be easing.

Yields in Australia and New Zealand dropped to record lows after a closely watched part of the U.S. curve inverted on Friday as investors wager that the Federal Reserve will need to cut rates. Trading volumes in Treasury futures were double the norm during Asian trading, while Japan’s 10-year yields fell to the lowest since 2016.

“Bond markets globally, along with dovish central banks, have been telling us a slowdown is on the way,” said Jeffrey Halley, senior market analyst at Oanda Corp. in Singapore. “Some parts of the world will be better equipped than others to handle this. The U.S. can at least cut rates and apply monetary tools, while things could be worse for Europe and Japan, where they cannot.”

U.S. yield slide has fed through to Australia, New Zealand© Bloomberg U.S. yield slide has fed through to Australia, New Zealand

Treasuries have led a global debt rally amid bets that a rate-cutting cycle is coming. On Friday, the yield on 10-year notes fell below the rate on three-month U.S. bills for the first time since 2007 amid reports showing economic weakness in the U.S., France and Germany.

Money markets are pricing around a 90 percent chance that the Federal Reserve will cut rates by 25 basis points by December, followed by another reduction in September 2020. This comes after the central bank projected no hikes this year at its policy meeting last week.

It’s difficult to see “strong inflationary pressures” in the economy, Chicago Fed President Charles Evans said in Hong Kong Monday, adding that the central bank will be monitoring data very closely.

Open interest, a measure of outstanding positions across Treasury bond futures, jumped Friday as the yields on the 10-year cash bond dropped 10 basis points to 2.44 percent. Hedge funds and other speculators have also cut shorts in 10-year futures after holding record positions as recently as September, according to the latest Commodity Futures Trading Commission data.

U.S. 3-month to 10-year yield curve inverts for the first time since 2007© Bloomberg U.S. 3-month to 10-year yield curve inverts for the first time since 2007

“Data is deteriorating globally,” said Tano Pelosi, portfolio manager at Antares Capital in Sydney. “It’s very unlikely that the Fed will hike again for some time.”

Australia’s 10-year bond yields fell five basis points to 1.78 percent. New Zealand’s dropped as much as 8 basis points to 1.899 percent, a record low in data compiled by Bloomberg since 1985. In Japan, the benchmark fell 2 basis points to minus 0.084 percent. Yields on German debt fell below zero for the first time since 2016 Friday after weak factory data. Still, confidence among German firms unexpectedly improved this month, according to the Ifo.

Australian bonds have rallied since central bank Governor Philip Lowe pivoted to a neutral stance last month from a long-held view the next move in rates would be up. The local yield curve flattened further, with the difference between three and 10-years narrowing by two basis points to 38 basis points.

The nation’s bond curve will flatten more, Goldman Sachs Group Inc. strategists including Praveen Korapaty wrote in a note. “The RBA may eventually be drawn into a cutting cycle should data deteriorate from here,” they said. “Relative to current pricing we think risk-reward favors curve flatteners.”

Emerging Stress

The flight to safety is spurring sell-offs in some parts of emerging Asia. Yields on Indonesian debt due in 10 years climbed six basis points to 7.67 percent as investors ditch high-beta assets.

a screenshot of a video game: Indonesia bond yields have risen and rupiah weakened as U.S. curve inverts© Bloomberg Indonesia bond yields have risen and rupiah weakened as U.S. curve inverts

The inverted yield curve in the world’s biggest bond market is sending a negative signal for developing-nation assets, according to Win Thin, global head of currency strategy at Brown Brothers Harriman & Co. in New York.

“If sustained, it would signal a likely U.S. recession in the next six to 24 months,” he said. “This is hardly conducive to risk and EM assets, which we see remaining under pressure this week.”


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