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The bond vigilantes can smell blood. Enlivened by a shake-out in the UK government bond market, the undead sheriffs of global finance are cracking open their coffins to warn that a crisis is coming, urgent action is required and soon the great debt reckoning will begin. Bonds are on the edge of a hefty decline in price and heads must roll.
Excitable voices tell us that UK chancellor Rachel Reeves should resign, that she should have cancelled her China trip, that the Bank of England should do something to deal with this sudden evaporation of investor confidence. This is all silly. The discipline of the bond market is real. Just ask Liz Truss. The great risk is that at some point, investors will gag on the huge volume of bonds they are asked to digest. They will either refuse to keep buying or demand punitive rates, tying governments to decades of painful debt servicing costs.
This hinges on the notion that global government borrowing has got out of hand. There’s a grain of truth to this. The IMF calculated last year that global debt levels stand at around $100tn — a big number by any measure. “Countries should confront debt risks now,” it said. Bluntly, this means cutting spending hard or relying on inflation to shrink the debts away. Option one is not without its costs. Option two is what keeps bond investors up at night.
It is of course not just UK bond prices that are under pressure. More alarmingly, perhaps, US yields have also driven relentlessly higher in recent months even while the Federal Reserve has slashed interest rates. This is extremely weird. Long-term bond yields generally fall when interest rates decline, as Apollo chief economist Torsten Slok pointed out this month.
This time around, US 10-year yields have risen by about a percentage point since the Fed started chopping. “This is highly unusual,” he wrote. “Is it fiscal worries? Is it less demand from abroad? Or maybe Fed cuts were not justified? The market is telling us something, and it is very important for investors to have a view on why long rates are going up when the Fed is cutting.”
Investors can paint a range of reasons on to this, and one of them is fiscal concerns. Maybe this really is the start of the big pushback from money managers and the great clash between governments and markets has already begun. The truth, though, is probably much more prosaic.
Iain Stealey, international chief investment officer for fixed income at JPMorgan Asset Management, is among those unconvinced that this situation is as abnormal as it seems. The creep higher in US yields since the rate cuts started in September is “a big move, no question”, he said. But he also pointed out that yields had sunk a long way in advance of the Fed’s pivot.
That’s problematic on its own — the typically staid government bond market has been prone to overreaction of late, which can lead to unpleasant snapbacks. But also, the facts have changed, as the Fed acknowledged in December. The economy is still humming along nicely and Donald Trump’s economic policies smell inflationary. Investors are busily scribbling out the rate cuts they had pencilled in for 2025 and the market is moving accordingly.
For the UK, supposedly the main victim of bond vigilante ire, it remains very hard to argue that anything meaningful has changed. “Can we really blame Rachel Reeves?” asked hedge fund group Man this week. “The current episode doesn’t seem UK-specific at all — gilt and Treasury yields are moving largely in tandem . . . Our lesson here is to be careful of what the media are saying.” (I will take the liberty of excluding myself from that burn.)
Added to the mix, the new year rush of bonds hitting the market has been unusually large. Investors say that was exaggerated somewhat last week when borrowers were keen to avoid the one-day US market closure to mark the death of former President Jimmy Carter. The butterfly effect in action.
All of this left bond bashers pushing at an open door, particularly in the UK. M&G Investments’ Andrew Chorlton, chief investment officer for fixed income, said at an event that hedge funds “looking to make a quick buck” appeared to have played a large role in seeing how low they could push gilts. Central banks have also stepped back from their support of bond markets. The quantitative easing that accompanied super-low interest rates is over. With that safety net gone, what you see is a more a “true” price for government bonds.
It’s easy going for those keen to bash bonds, or politicians, right now. But bond market wobbles are not born equal. I may be proven wrong, but this feels like a repricing, not a rebellion.
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