Yields Driven Under 1% on Almost Half World’s Government Bonds

Photographer: Simon Dawson/Bloomberg

Richard Clarida, Executive Vice President of Pacific Investment Management Co. Close

Richard Clarida, Executive Vice President of Pacific Investment Management Co.

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Photographer: Simon Dawson/Bloomberg

Richard Clarida, Executive Vice President of Pacific Investment Management Co.

Forty-five percent of all government bonds yield less than 1 percent, Bank of America Corp. said, as central bankers in Japan, Europe and the U.K. decide on how to support their economies.

Speculation that the European Central Bank would start buying debt in the year ahead had pushed the yield spread between U.S. 10-year Treasuries and German bunds toward a 15-year high and German 10-year yields to a record low of 0.866 percent last week. The ECB unexpectedly cut interest rates and pledged to buy asset-backed debt at today’s policy meeting to spur economic growth and stave off the threat of deflation.

“The bond market is in a fix now,” said John Anderson, a portfolio manager at Smith & Williamson Investment Management. “If U.S. growth does pick up, current low yields will look unsustainable. But euro-zone deflation could mean any correction could be a long way off. We stay long Treasuries and the dollar for the time being.” A long position is a bet that an asset price will rise.

Europe's QE Quandary

The U.S. 10-year yield, a benchmark for borrowing costs around the world, rose two basis points, or 0.02 percentage point, to 2.42 percent as of 9:04 a.m. in New York, according to Bloomberg Bond Trader data. The price of the 2.375 percent note maturing in August 2024 fell 7/32, or $2.19 per $1,000 face value, to 99 18/32. Treasuries maturing from one month to three years all yielded less than 1 percent.

The yield spread between Treasuries and German bonds was at 1.48 percentage points today, within the 1.49 percentage points spread reached on Sept. 2, the highest since June 1999.

Rate Cuts

The ECB will start buying securitized debt and covered bonds, potentially easing the flow of bank funding for the region’s faltering economy.

“The euro system will purchase a broad portfolio of simple and transparent securities,” President Mario Draghi said at a press conference in Frankfurt today after the ECB unexpectedly cut interest rates to record lows. This action together with already-announced long term loans “will have a sizable impact on our balance sheet,” he said. Agreement on the plan was not unanimous, he said.

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The Bank of Japan finished its meeting today by maintaining its record debt purchases of 60 trillion yen ($572.4 billion) to 70 trillion yen a year.

Japan’s 10-year yield was little changed at 0.53 percent. Australia’s was little changed at 3.43 percent.

Rate Bets

For Pacific Investment Management Co., which runs the world’s biggest bond fund, growth is weak enough that the next round of interest-rate increases will be less than usual.

“No one’s talking about rate hikes in Europe for several years,” Richard Clarida, an official at Pimco, said yesterday on Bloomberg Television’s “Street Smart” program in New York. “Japan is still in an easing cycle. Globally, while the Fed and the Bank of England may start to move in 2015, it’s not going to be your father’s or your uncle’s rate-hike cycle.”

Futures contracts indicate traders are betting the Federal Reserve will raise interest rates in the U.S. next year. Policy makers have kept their target for federal funds, the rate banks charge each other on overnight loans, at zero to 0.25 percent since 2008. The policy has capped bond yields and helped send the Standard & Poor’s 500 Index to a record high yesterday.

Bill Gross, who manages the $221.6 billion Pimco Total Return Fund, used his monthly outlook piece yesterday to reiterate his view that the Fed will limit how far it increases borrowing costs.

Prior Cycles

“Today’s levels of interest rates and stock prices offer a historically unacceptable level of risk relative to return unless the policy rate is kept low -– now and in the future,” Gross wrote. “That is the basis for the New Neutral, Pimco’s assumption that the Fed funds rate peaks at 2 percent or less in 2017.”

In the three cycles of rate increases that have occurred over the past 20 years, policy makers pushed the fed funds rate above 5 percent each time.

Bank of America analysts led by Michael Hartnett in New York wrote in their report dated Sept. 2 that investors should be “short bonds” with positions that will benefit from market declines. Money managers should expect “higher” U.S. growth and yields, the report said.

(An earlier version of this story corrected the date of the Bank of America report in the final paragraph.)

To contact the reporters on this story: Wes Goodman in Singapore at wgoodman@bloomberg.net; Anchalee Worrachate in London at aworrachate@bloomberg.net

To contact the editors responsible for this story: Garfield Reynolds at greynolds1@bloomberg.net Pavel Alpeyev, Dave Liedtka

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