Jim Grant once said that reaching for yield during a market configuration of bond yields and risk remarkably like today’s (except it was slightly less risky) was like reaching for a razor blade in the dark. From Wolf Richter at wolfstreet.com:
Record moneys suddenly pile into the material of debt crises.
The Institute of International Finance opined last week that “the ‘low for long’ interest rate outlook now looks more like ‘low forever’ – an outcome that has unleashed a powerful renewed search for yield.”
They’re all doing it.
Japanese investors, such as pension funds and insurance companies, are swarming into US Treasuries now more than ever.
According to the Ministry of Finance, for the week ended July 16, Japanese investors bought a net ¥1.718 trillion ($16.2 billion) of foreign “long-term” debt (everything except “short-term” debt). The week before, they’d bought a net ¥2.55 trillion, the highest on record. And according to the MOF, they were mostly buying US Treasuries.
For them it makes sense: the 10-year punishment yield of the Japanese Government Bond is a negative -0.22%. But the 10-year Treasury yield is still a positive 1.57%. And with the Bank of Japan being outspoken about wanting to crush the yen, the hapless Japanese have even more reason to seek refuge in US paper. We can’t blame them.
Europeans are doing the same thing, buying US Treasuries, but also US corporate bonds, and even US junk bonds.
“NIRP refugees” we’ve come to call them. They’re trying to escape their central bank’s iron-fisted financial repression where bond buyers are guaranteed to lose money if they hold bonds to maturity, which many institutional investors need to do – such as pension funds and insurance companies. It impacts everyone since they’re managing the money of regular folks.
Over $12 trillion of bonds are trading with punishment yields these days. So investors are chasing positive yield where they can, thereby transferring the effects of central-bank policies from their bailiwicks to the US, and in turn pushing down yields in the US.
But where do American investors go to chase yield, now that Treasury yields are disappearing before their very eyes?
Junk bonds. And they have soared, and yields have plunged over the past few months.
And dividend stocks. Even classic bond buyers are switching to stocks that pay a dividend, to get a little extra yield. But companies can eliminate dividends in no time, and the yield goes to zero while the stock dives. A bond would be in default if the issuer were to stop paying the coupon. By that time, bankruptcy lawyers are circling. But cutting a dividend is routinely done during market downturns, and yield investors who switched from bonds to dividend stocks have a rude awakening.
And now everyone has rediscovered another source of yield. The Financial Times, about what happened over the past two weeks:
Investors are piling into emerging market bond funds at the fastest pace on record as pension funds, sovereign wealth funds, and other big institutions follow more seasoned specialists into riskier asset classes in search of yield.
“This is capitulation,” Sergio Trigo Paz, head of EM fixed income portfolio management at BlackRock, told the Financial Times. “The big, big investors are starting to move.”
More comprehensive data from the Institute of International Finance show that last week, cross-border flows to EM stocks and bonds hit their highest level since the US Federal Reserve shocked markets by pulling back from a rise in interest rates in September 2013.
To continue reading: Why this Spike Will Perforate Yield Chasers
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