A Low-Yield Bond World Everyone Loved to Hate Is Ending in Tears

Remember when everyone in the bond market bemoaned living in a low-volatility, low-yield world?

Those days are ending. Prices are swinging more than they have on average during the past few years and there’s yield to be had if you have the stomach for risk. Junk bonds and emerging-market debt have been tumbling on concern that plummeting oil prices will impede the ability of borrowers to repay their debt.

Yet many don’t seem much happier for it.

“We experienced a very challenging fourth quarter,” Jefferies Group Chief Executive Officer Richard Handler said in a statement today. New York-based Jefferies reported a 73 percent drop in fourth-quarter revenue today amid losses from distressed debt.

The CEOs of Bank of America Corp. and Citigroup Inc. said at a conference on Dec. 9 that they, too, expect trading revenue to drop in the fourth quarter.

Traders aren’t the only ones worried. Bank of England Governor Mark Carney said today that he sees the potential for a contagion effect from emerging markets into developed ones that would “challenge financial conditions, with some impact for financial stability and ultimately for growth.”

Yield Surge

Federal Reserve policy makers are meeting today and tomorrow to discuss plans to raise interest rates as soon as next year. While the U.S. economy has been showing signs of accelerating growth, central bankers are facing a declining outlook for inflation as oil prices drop to the lowest since 2009.

Bond buyers are now demanding significantly higher premiums across the globe to own debt of the most oil-dependent borrowers.

Yields on Russian 10-year notes have surged to more than 16 percent. Venezuela’s 12.75 percent debt due in 2022 has tumbled to 39.5 cents on the dollar from as high as 122.5 cents on dollar in February 2013.

And U.S. junk bonds now offer 7.3 percent yields, up from 5.7 percent in June, Bank of America Merrill Lynch index data show.

Meanwhile, yields on 10-year Treasuries have dwindled to 2.07 percent, the lowest since May 2013 as investors bid up safer assets.

Brutal Month

But more volatility hasn’t necessarily translated into more trading. About $7.5 billion of high-yield bonds were exchanged every day on average since the beginning of November, from about $8.3 billion on average in September and October, Trace data show.

The amount of Treasuries traded through ICAP Plc, the largest inter-dealer of U.S. government debt, has averaged $306.6 billion a day since the beginning of November, down from $334.9 billion daily in the 10 months before. This means that more price swings isn’t necessarily helping bond brokers boost revenues. In some cases, it’s just meant additional losses on bad bets.

“The first half of December has been brutal for investors in spread products,” Kenneth Hackel, a fixed-income strategist at broker-dealer CRT Capital Group LLC, wrote in a note to clients today. “Bah Humbug now looms over this holiday season!”

If oil values keep falling, this shakeup will only get more violent.

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