US treasury bond yields are sliding towards zero
Benchmark 10-year bond yield fell below 1 per cent for first time in history on Tuesday
Bond traders have long been prepared to live in a world with lower-for-longer interest rates. But did they expect them to fall this low? And this soon?
In nothing short of a historic day for the $16.7 trillion (Dh61.3tn) US Treasuries market, the benchmark 10-year yield fell below 1 per cent for the first time ever on Tuesday. The yield, which peaked at 15.84 per cent in 1981 and more recently at 3.26 per cent in October 2018, has tumbled just about every day in recent weeks. Mounting fear over the spreading coronavirus has forced investors to come to grips what what a pandemic might mean for the longest US economic expansion on record.
One thing’s for sure: The Federal Reserve isn’t about to let the American economy falter without a fight. The central bank slashed interest rates by 50 basis points on Tuesday in the first inter-meeting policy easing since 2008. Now with the fed funds rate at 1 per cent to 1.25 per cent, Wall Street strategists say further reductions are not a matter of if, but when. Many see at least another 50 basis points by the middle of the year, mirroring expectations in the fed funds futures market. JPMorgan Chase’s Jan Loeys went even further, arguing that treasuries are now trapped in negative-yield “quicksand” that will pull yields toward zero as soon as this year.
That’s a scary proposition. In a world with some $14 trillion in negative-yielding debt, US Treasuries have long been seen as an alluring safe haven for long-term investors to at least lock in some positive yield, however small.
The idea that Treasuries will soon approach the zero bound has undoubtedly fuelled the seemingly insatiable bond rally bid over the past two weeks, even as yields reached record low after record low. On Tuesday alone, the 10-year yield fell more than 25 basis points, to as low as 0.9043 per cent, while two-year yields tumbled as much as 28 basis points. The yield on 30-year Treasury inflation-protected securities — often referred to as a “real yield” — fell below zero for the first time.
“This is happening much faster than I thought as a result of large investors such as banks and insurance companies recognising this and positioning now for falling bond yields — they’re doing heavy buying,” JPMorgan’s Loeys told Bloomberg’s Vivien Lou Chen. “The thought is, ‘Whatever happens to the US economy, we are ultimately going to zero yields and so buy more'.”
It’s hard to imagine that Treasury yields can continue to fall as fast as the past couple of weeks. But it’s even more difficult to envision a scenario in which they would rise in any meaningful or lasting way. Although the level of decline is starting to make some investors nervous, is it scarier to buy 10-year Treasuries that yield 1 per cent now or confront the potential scenario down the road in which yields are near-zero and regret not acting now? Plenty of investors hated the idea of Treasuries at 1.6 per cent, but buying at that level would have netted a tidy 5 per cent profit already.
Lacy Hunt helps oversee the Wasatch-Hoisington US Treasury Fund, which invests solely in long-dated Treasuries and has returned a staggering 40 per cent over the past year and 17 per cent in 2020 alone.
He has insisted for years, even when the Fed was tightening monetary policy, that “the secular low in long-term Treasury bond yields is well ahead of us, it’s not behind us”. He was absolutely correct.
He has argued that contrary to expectations, an economic recovery from the expected decline in activity caused by the coronavirus "will not be V-shaped".
"It will be very shallow and difficult. And I think there’s ample reason for that. Since 2009, in major economic areas, we’ve had five recessions. Three in Japan, two in Europe. It may be that Europe and Japan are in their third and fourth recession, respectively. In each of those prior five cases, what did the conventional wisdom say about the recoveries? That they’d be V-shaped. But none of them were. This recovery is not going to be V-shaped because the economy was very fragile with all kinds of problems, and then this unfortunate set of circumstances hit.”
No one can truly know when or how this ends. Fear is palpable and central bankers are standing ready to do what they can to mitigate the harm to the economy. That means coordinated interest-rate reductions and persistent asset-purchase programs.
The damage is already done to traders’ psyches, however. The world’s deepest and most liquid bond market has crossed the Rubicon. America may not join the negative-yield club immediately, but it looks more like an inevitability than it ever has before.
Updated: March 4, 2020 03:16 PM