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In the “everything has to go” sale sweeping through commodities, corporate debt, and equities, investors have seen the value of their usual sturdy government bonds buckle even as risk assets came under pressure in the past few trading sessions.
This counterintuitive action blows in the face of the widely held expectation that U.S. Treasurys would remain a port of shelter from the plunge in equities, driven by the COVID-19 pandemic’s rising number of cases in the U.S.
Money managers and financial advisors have relied especially on long-dated bonds to serve as ballast for the broader portfolio when financial markets came under stress.
The 10-year Treasury note yield TMUBMUSD10Y, +10.69% traded at 1.115%, up around 17 basis points from the beginning of the week. Yet the S&P 500 SPX, -5.18% is staring at a near 14% drop over the same period.
Some economists have suggested bond traders could be waking up to the fact that the U.S. government’s fiscal deficits will start to finally matter, and that the broader investment community will struggle to take down the U.S.’s yawning debts.
According to that logic, the wave of debt supply from the fiscal stimulus packages discussed by U.S. policymakers this week could overwhelm investors and push values for government bonds lower, and yields higher.
“Fed officials have often worried about increased government spending on the retiring, baby boom workers, and now it looks like the debt deluge that sends bond yields soaring could come years before it was expected,” said Chris Rupkey, chief financial economist at MUFG.
But market participants said the real reason driving rates higher was more mundane and frightening — investors needed to raise cash to cover their losses.
“You tend to think of Treasurys as a safe haven. At the same time, it’s the deepest and most liquid market. Treasurys are a great place to start if you need cash,” said Scott Clemons, chief investment strategist at Brown Brothers Harriman, in an interview.
Compounding the selloff is the current lack of liquidity as primary dealers, the select group of 24 financial institutions who buys bonds directly from the government, have been unwilling to buy bonds and serve their role as the middlemen in the market.
As a result, traffic in Treasurys trading has largely been one way – selling, Gregory Faranello, head of U.S. rates at AmeriVet Securities, told MarketWatch.
Despite the steep losses seen across government bonds this week, forward-looking fund managers still see Treasurys returning to their traditional role as a haven asset soon as investors digest the implications of a seismic demand shock from the COVID-19 outbreak that is shutting down economic activity across the world.
John Higgins, chief market economist of Capital Economics, points out the initial selloff sparked by the fiscal stimulus efforts launched by the Obama administration to combat the 2008 financial crisis did not end up driving bond yields to a permanently higher plateau.
“The effects of the fire selling did start to unravel once investors realized that interest rates and inflation were set to stay low for a long time. We suspect that something similar will happen this time around,” said Higgins, in a Wednesday note.
