For the first time since the financial crisis in 2008, all 26 government bond markets tracked by Bloomberg and the European Federation of Financial Analysts Societies are poised to deliver a winning year. Chalk it up to a government bond-buying blitz by major central banks and relatively low inflation in the world’s biggest economies.
Most of the biggest gains came in bonds of countries at the center of Europe’s debt crisis, including Ireland, Greece, and Italy. Portugal, which depends on aid to stay solvent, had the best-performing bonds, up 45 percent. Japan, with the highest debt level in the developed world, was the worst performer, returning 1.7 percent, trailing Switzerland and the U.S. at 1.9 percent. “The longer-term bull market in government bonds is still intact all over the world,” says Howard Simons, a strategist at Bianco Research.
Graphic by Bloomberg Businessweek; Data: Bank of America; Data compiled by Bloomberg
This year’s gains extend a five-year rally that has seen sovereign bonds top stocks and commodities. On average, government bonds have returned 31 percent, including reinvested interest, since mid-2007, as measured by Bank of America Merrill Lynch’s (BAC) Global Sovereign Broad Market Plus Index, while the MSCI All-Country World Index of stocks has lost 4.2 percent with dividends. The Standard & Poor’s (MHP) GSCI Total Return Index of 24 raw materials has dropped 21 percent.
Investors have continued to gobble up government bonds, despite the low interest rates they offer and the competitive lure of stocks, which have returned 11 percent this year, according to the MSCI World Index. The average bond yield has dropped to 1.44 percent, from 1.76 percent on Dec. 31, the Bank of America Merrill Lynch indexes show.
One reason: Inflation, the traditional bane of bond investors, is nowhere in sight. In the U.S., inflation as measured by the personal consumption expenditures index, a gauge preferred by the Federal Reserve, rose 1.3 percent in the third quarter from a year earlier, below the 1.9 percent average of the past 20 years, data from the U.S. Commerce Department show. “We still have a massive deflationary force,” says Michael Quach, the global investment analyst for Smith & Williamson Investment Management.
Some analysts say the gains reflect the actions of central banks, which are buying bonds to spur growth by keeping borrowing costs down. “The monetary authorities are going to do whatever it takes to stop any sharp rise in bond yields while they remain concerned about the growth outlook,” says Steve Miller, a managing director at BlackRock (BLK), the world’s biggest money manager.
At the same time, efforts by governments to curb spending are slowing the flood of bonds onto the market. The face value of debt tracked by the Bank of America Merrill Lynch index has risen 7.3 percent this year, to $23.6 trillion, the smallest increase since 2005 and down from increases of 10 percent last year, 18 percent in 2010, and 25 percent in 2009. Under current conditions, demand will persist for sovereign bonds, says Jeffrey Caughron, an associate partner at the Baker Group in Oklahoma City, which advises community banks on investments. “There’s still room for the healthy countries and those enacting responsible policies to continue to issue any debt.”