Currently, nearly 71% of worldwide government issued bonds trade at yields of under 1% and approximately 33% of worldwide government issued bonds trade at negative interest rates.
Source: Bloomberg, J.P. Morgan Asset Management; (Right) BofA/Merrill Lynch. *Target policy rates for Japan are estimated using EuroYen 3m futures contracts less a risk premium of 6bps. Government bond index is the BofAML Global Government Bond Index, which includes investment-grade sovereign debt denominated in the issuer’s own domestic currency. The index includes all Euro members, the U.S., Japan, the UK, Canada, Australia, New Zealand, Switzerland, Norway and Sweden. Guide to the Markets – U.S. Data are as of August 31, 2016.
With this backdrop, the U.S. bond market looks attractive to foreign investors, and has seen significant demand from non U.S. buyers in recent years. We expect this trend to continue and possibly accelerate. Many foreign buyers are not only attracted to our modestly higher relative interest rates but also may find investing their funds in our currency to be appealing.
Source: FactSet, J.P. Morgan Asset Management; (Bottom left) U.S. Treasury. *Rolling six-month correlation of weekly change in yield. Guide to the Markets – U.S. Data are as of August 31, 2016.
The effect of this buying certainly has held down our interest rates, flattened our yield curves, and reduced credit spreads on many of our corporate issued bonds. In addition, many foreign buyers are finding our very developed and mature mortgage backed securities markets to also be relatively appealing to them. The net effect of this foreign demand, added to our own demand for yield, has driven credit default spreads (the premium an investor pays for credit protection/insurance) down close to their all-time lows. Mortgage backed securities and government agency bonds also trade at or near historically low yields when measured on an option adjusted basis.
As the FED continues to seek out a “goldilocks domestic economy” (enough economic growth to satisfy them, with some, but not too much, inflation, and full employment, but not too tight of a labor market) – they continue to find excuses to not raise interest rates. While we still expect some modest increases in rates in coming years, with the current length of this economic recovery (almost 7 years) one could argue that an economic slowdown in the next few years is also likely. If this were to occur the FED could again be under pressure to stimulate economic activity, which could possibly include lowering interest rates once again. In other words, get used to things, we may not be going anywhere meaningfully on rates anytime soon.
Jim Bernard, CFA, is the Managing Director, Fixed Income at Ancora Advisors LLC a SEC Registered Investment Advisor. He is also a Registered Representative and Registered Principal of Safeguard Securities, Inc. (Member, FINRA/SIPC)
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