They say that bonds are causing the market turmoil…I accept that, but it’s a bit hard to understand why.
If T-bills are 5%, and if institutions are selling stocks to get the risk-free rate, even on longer duration bonds, as they appear to be now (since they have risen too), why hasn’t that bid brought rates down? Imagine KO at a hypothetical 7% yield during a crash…how long would that stock, which is a hybrid bond in a sense, stay at that yield?
I can only suspect that maybe the market thinks rates are going higher (as in Fed hikes rates; that agency essentially dictates bills/notes/bonds, am I correct on that?) and are holding back? If that is the case, where is the money going from equities? I also suspect maybe there is a lot of supply of bonds out there and holders adjust the coupons to make what they are selling more attractive (i.e., as an analogy, if a video game is being sold on eBay for $400, I may offer my own copy for $385). Then again, can coupons be adjusted?
Another related question: they say bonds sell off if the macro market is doing poorly and may hit a recession…why is that? I thought bonds were supposed to be safe investments. Or, is it meant that corporate bonds sell off?
I think it does not matter if it is corporate or government bonds, as long as the bond is rated A. Bonds have always been a “flight to safety” asset play for many fund managers. Macro economic factors usually decide on a top level how bonds, fixed income, stocks, etc are played. Case in point - Buffet’s sale of TSMC shares with such an unusually short holding period.
I believe the markets will be very volatile in the ensuing weeks/months until we get better sense of where the China’s mess is heading. There maybe short term rebound for tech (usually the first mover) but any sustained recovery is still uncertain at this point.
Buy and hold is now more of a loss-making strategy proposition.
On the demand side, the Federal Reserve is still generally unwinding its bond holdings by letting them mature and not be repurchased. See this chart for details: Federal Reserve Board - Balance Sheet Trends - Accessible . The Federal Reserve has the ability to print US dollars to buy bonds. With its unlimited buying power apparently turned off (or at least reduced), that’s a huge buyer of debt that has exited.
With supply up and demand down, rates need to be higher to attract buyers.
Usually, there is a flight to quality and safety during tough times. Often, that translates to the prices of more speculative grades of bonds falling. Whether higher quality bonds rise or fall as well depends on a lot of factors. Remember that people and companies still have to pay their bills, even in a recession. If times are tough enough so that they have less money coming in than going out, that could translate to higher bond yields overall as there are simply fewer net buyers in the market. If, on the other hand, companies are still generally profitable and people are able to at least cover their basics, high quality bonds could benefit from that net flight to safety and quality.
Thanks to both of you for your replies. Great info, I am still digesting it, but it seems to be demand that is a big factor, as has been stated. Very interesting.