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Investors are beginning to worry about the bond market again. Here’s why

Infinox Contributor
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The bond market is once again causing concern to traders and investors — at least if Bank of America’s November Global Fund Manager Survey, published this week, is to be believed.

A sharp fall in bond prices currently ranks as one of their top three long tail risks, with 22 per cent of those surveyed by the bank saying they are increasingly worried about prices.

The survey also found that a near-record 81 per cent of respondents said bond markets are overvalued.

The only other thing that concerns investors more, according to the survey, is the fear of a mistake in monetary policy by the Federal Reserve or European Central Bank (ECB), with 27 per cent of investors citing monetary policy as their biggest concern.

In reality, of course, concerns about bond prices are closely linked to monetary policy. Part of this is down to fears about policy divergence between the US Federal Reserve, European Central Bank and Bank of England, and so on.

But the main reason for the concerns about bond prices, many suspect, relates to Quantitative Tightening (QT), otherwise known as the unwinding of Quantitative Easing (QE).

The massive bond buying programmes the central banks engaged in after the financial crisis were designed to deter investors from buying government bonds and instead buy corporate bonds, or if they were banks - the biggest buyers of government bonds - lend money out into the real economy.

But now there is a Jenga-like fear that the whole bond market could collapse. After all, if the US Fed unwinds QE too quickly, it could flood the bond market leading to a collapse in prices and leaving everyone unable to raise money. QT could result in a second credit crunch, you could say.

That’s not to say the Fed will do that, and the ECB has already set out its plans for unwinding QE in Europe providing some assurance. But Jerome Powell becomes the new chair of the Federal Reserve in February and it is a matter of public record that he was against extending QE in 2012.

So there are a few nerves about what monetary policy will look like in 2018 and what impact it will have on markets. Central banks, but particularly the US Fed, will have to tread carefully for years to come. If they don’t they could cause panic.

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