Bond bubble

[Colm Fagan]

My views on bonds are well known. The following item from today's FT could shake the faith of those who still believe in this asset class.
Problems in fixed income markets could potentially destabilise the global financial system, the IMF has warned, and bond funds holding assets worth about $1.7tn could face difficulties repaying investors promptly if volatility increases. With about a quarter of the debt issued by governments and companies globally trading with negative yields, many creditors are, in effect, paying to hold debt. Tobias Adrian, the IMF’s financial counsellor, said that “declines in holdings of liquid assets raise questions about fixed-income funds’ ability to absorb redemption shocks"

 

[Cameo]

The problem about bubbles is they’re difficult to identify, even when you do it’s more difficult to determine when they’ll deflate.

I’ve thought bond prices have been in a bubble territory for years. But when you see first hand how central bank buying to target a specific yield it kind of throws logic and standard traditional thinking about investment out the window. I think the only risk to bonds is a change in central banks policy. Just don’t see that happening for now but I’m almost sure there will be another policy error at some point in the future but I don’t know when.

My post is a bit on the rambling side but is consistent with trying to predict the future

P.s. I have not been following your articles so not aware of your view on bonds, I’m guessing it’s not positive

 

[NoRegretsCoyote]

I read the article.

I think the issue is not so much whether there is a bond bubble or not. The issue is whether the funds have enough short-term liquidity to deal with a spike in redemptions. This could be unique to the fund or system wide.

 

[Sunny]

It is behind a pay wall so can anyone give a summary of what it is saying? I don't really understand the context of the last line:
Tobias Adrian, the IMF’s financial counsellor, said that “declines in holdings of liquid assets raise questions about fixed-income funds’ ability to absorb redemption shocks"

Is he claiming that bond funds are now holding less liquid assets to get yield or something?

 

[Sarenco]

Some funds (Woodford, H20) recently got themselves into trouble by holding illiquid securities in an effort to juice returns.

Incidentally, the IMF has not declared a "bond bubble" (as suggested by the title of this thread). The IMF has, however, argued that low interest rates are causing certain risk assets (including equities) to look overvalued and have warned about corporate debt levels:

Lower for Longer: Rising Vulnerabilities May Put Growth at Risk

By Tobias Adrian and Fabio Natalucci عربي, 中文, Español, Français, Português, 日本語, Русский The pace of global economic activity remains weak, and financial markets expect rates to stay lower for longer than anticipated in early 2019. Financial conditions have eased even more, helping contain...

blogs.imf.org

 

[joe sod]

Bond bubble puts global financial system at risk
IMF warns fixed-income funds are vulnerable to liquidity shocks

Well this is the heading of the article, I cant copy anymore because of infringement of copyright. However if you copy and paste the quote

“declines in holdings of liquid assets raise questions about fixed-income funds’ ability to absorb redemption shocks"

into google search engine it brings up the article that you can read in full. It clearly references the "bond bubble", it compares some bond funds to neil woodfords ill fated inability to meet redemptions. Because of negative interest rates on the safest bonds they need to include more higher risk bonds in order to give a positive return. If the price of bonds drops (of course this has not happened in a very long time hence the false sense of security ) then the nominal value of these funds will start to fall and investors will look to liquidate their funds for cash. This is the big risk that many of these funds will not be able to meet those redemptions ala neil woodford because many investors will all be looking for their cash at the same time.

 

[Sunny]

Thanks. I will read it later. I am curious though. As Sarenco says, it seems to be a different argument to the bond market being in a bubble. It seems to have to do more with fund strctures and offering daily liquidity. There is no reason why a high yield bond fund should be offering daily liquidity anyway. That is just asking for trouble. Money Market fund Reform this year has seen the introduction of things like redemption gates and fees for money market funds which are large buyers of short term bonds. Any bond fund I have seen also had redemption gates. I would be suspicious of any that didn't i.e. offering daily redemption no matter what the market conditions were.