One-Hundred-Year Bond Backfires as QE Seen Ending: Mexico CreditBen Bain and Boris Korby
Seven months after investors piled into Mexico’s 100-year bonds, the world’s longest-dated government debt is saddling money managers led by MFS Investment Management with the nation’s worst losses.
The $2.7 billion of notes due in 2110 have fallen 15.79 cents since reaching a record 125.77 cents on the dollar on Aug. 2, as investors spurn debt more sensitive to changes in interest rates. Yields on the century bonds rose 0.67 percentage point in that span, touching an eight-month high of 5.27 percent last week. That compares with a 0.09 percentage-point drop on similar-rated emerging-market government debt.
Investors who bought Mexican bonds last year as central banks globally suppressed rates to revive growth are now unloading the debt as the Federal Reserve signals it may curb asset purchases. Yields on 30-year U.S. Treasuries have increased 0.4 percentage point since August. The correlation between the U.S. notes and century bonds from Mexico, which sends about 80 percent of its exports to its northern neighbor, touched an all-time high in January.
“We’re at the beginning of what is possibly a very bearish bond market,” Jeremy Brewin, who oversees more than $5 billion of fixed-income assets as head of emerging-market debt at Aviva Investors Ltd, said by phone from London. “You don’t want to own long bonds for the next two to three years.”
MFS is the biggest holder of Mexican debt due in 2110, according to regulatory filings compiled by Bloomberg. John Reilly, a Boston-based spokesman for MFS, declined to comment, citing a company policy against discussing specific securities in its portfolios.
Alejandro Diaz de Leon, the head of public debt in Mexico, said the selloff in Mexico’s bonds “precisely reflects” the retreat in long-term Treasuries.
“I anticipate that our whole dollar curve is going to follow very closely what happens in Treasuries,” he said in a telephone interview yesterday.
The minutes from the most recent Fed meeting show some policy makers “expressed some concerns about potential costs and risks arising from further asset purchases.” A survey by the Federal Reserve Bank of New York released on Feb. 21 and taken before the most recent Jan. 29-30 Fed meeting showed primary dealers expected policy makers to reduce the pace of asset purchases by the beginning of 2014. A majority anticipated an end to mortgage-bond buys by January.
The Fed said Jan. 30 that it will keep buying bonds at a rate of $85 billion a month as part of its third round of so-called quantitative easing, or QE.
Fed Chairman Ben S. Bernanke today defended the central bank’s unprecedented asset purchases in testimony to the Senate Banking Committee, saying they are supporting the expansion with little risk of inflation or asset-price bubbles.
Mexico’s 100-year bonds are among the most vulnerable to the decline in Treasuries because an increase in yields cuts more value from longer-maturity notes that pay a larger number of coupons than shorter-dated debt.
Modified duration, which measures a bond’s sensitivity to rate changes, was 18.8 for the 100-year bond. That’s more than twice as much as Mexico’s notes due 2022, which have duration of 7.6. Brazil’s longest-dated dollar-denominated bond, which matures in 2041, is 15.1.
“Anything with duration has gotten whacked,” Kevin Daly, a money manager who oversees $11 billion in emerging-market assets at Aberdeen Asset Management Plc, said in a telephone interview from London. “We have been reducing the duration in our portfolio.”
The decline in Mexico’s bonds is creating a buying opportunity because Treasury yields are unlikely to climb further, according to Enrique Alvarez, the head of Latin America fixed-income research at IdeaGlobal in New York.
“In the shorter run, unless you can predict a very violent rise in the long end of U.S. Treasury rates, which I don’t think is going to occur, you shouldn’t expect much higher yields in trying to find a better or more attractive rate for entry,” Alvarez said in a telephone interview from New York.
Yields on 30-year U.S. Treasuries have dropped 12 basis points, or 0.12 percentage point, in the past week on speculation that U.S. will fail to avert automatic spending cuts slated to take place later this year.
The extra yield investors demand to own Mexican dollar bonds instead of Treasuries widened two basis points to 181 basis points at 2:12 p.m. in Mexico City, according to JPMorgan Chase & Co.
The cost to protect Mexican debt against non-payment for five years with credit-default swaps rose one basis point to 105 basis points, according to data compiled by Bloomberg. Credit-default swaps pay the buyer face value if the issuer fails to comply with debt agreements.
The peso weakened 0.5 percent to 12.8692 per U.S. dollar.
An investor holding $10 million of Mexico’s century bonds would incur a loss of $979,000 if the price on the securities fell to 100 cents on the dollar from the 109.8 cent price level yesterday, according to data compiled by Bloomberg.
“As a long-term investor, we’re not looking at the next six months,” Brewin said. “Frankly, why would I want to own something that is low-yielding and is subject to all the concerns about duration?”