DoubleLine's Jeffrey Gundlach indicated in a webcast on Thursday that financial markets are on the brink of turmoil, saying "this is a big, big moment." He's right. It is.
The mood has shifted suddenly. Investors are losing faith in the efficacy of monetary stimulus, and it appears that perhaps central bankers may be, too. The Bank of Japan and European Central Bank have refrained from committing to additional rounds of stimulus and are quickly running out of bonds to buy under their existing programs. The BOJ may run out of bonds within the next 18 months, while the ECB may run into a wall sooner than that, according to analysts cited by the Wall Street Journal and the Financial Times.
The Federal Reserve, meanwhile, is still planning to raise benchmark interest rates despite underwhelming economic data. This is in large part because policy makers are increasingly concerned about the threats to longer-term financial stability by keeping rates so low. Meanwhile, inflation expectations are rising on bets that government officials will embark on spending plans to stimulate growth.
This multifaceted dynamic is a game changer, and markets have taken note. Traders have started dumping government bonds, leading to the biggest rout in Japanese debt in 13 years.
Yields on 10-year German bonds just turned positive for the first time since July.
U.S. government bonds are poised for a second consecutive month of losses for the first time this year.
Futures traders are predicting a greater chance of the Fed raising rates this month than they were just a day ago, with every new speech or piece of data moving the needle. It's clear that many are struggling to understand what the Fed members' main considerations will be when deciding whether to take action.
“Interest rates have bottomed," Gundlach said in the webcast. "They may not rise in the near term as I’ve talked about for years. But I think it’s the beginning of something, and you’re supposed to be defensive.”
The big question now is, how far will this selloff go? If it stops here, it will be another blip soon forgotten. So far, the moves have not been drastic. Japanese government debt, for example, has been losing value steadily, but the losses since June amount to 2.3 percent, which isn't the end of the world.
But this does feel like part of a bigger trend. Jitters are spreading.
If European and Japanese central bankers are approaching the end of their bond-buying programs, then investors will have little reason to buy debt at a premium that pays no interest. Developed-market sovereign bonds would certainly suffer some significant losses, sending ripple effects through stocks, currencies and riskier bonds.
No one really knows how damaging a bond-market tantrum would be for the worldwide economy. Indeed, it seems as though it would be healthy for bond yields to rise and some equity valuations to fall a bit. But it's worrisome that global markets are moving together as much as they have been, leaving investors with few hiding spots.
The next few months will most likely be more turbulent than what traders have become accustomed to. And it probably won't be much fun for many bond investors.
This column does not necessarily reflect the opinion of Bloomberg LP and its owners.
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Lisa Abramowicz in New York at firstname.lastname@example.org
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