Tapering? They're struggling to get that particular genie back in the bottle.....

Thursday 6th October 2016

Tapering? They're struggling to get that particular genie back in the bottle...

ref:- "Markets eye the taper but fear the tantrum", The Financial Times, Markets and Investing

You've probably noticed that there's been a bit of a reversal going on in bond markets of late ..... global sovereign debt markets are very closely correlated and tend to move together , but as it happens on this occasion each one of US Treasuries, European government bonds and their Japanese equivalents JGBs have their own reasons to see lower prices and higher yields.

In the States, more hawkish statements by Fed officials and some decently strong data have seen chances of a December rate hike pick up again  --  it's now rated as a 62% probability . Yes, we know ..... you've seen this all before and have been repeatedly disappointed (should you have been hoping for a rate rise, that is). All we can say about that is that a sizeable dose of scepticism is understandable and probably very sensible too, though if the Fed fails to act this time their already shaky credibility would take another hugely damaging blow. Watch out by the way for tomorrow's key September employment data:

Non-Farm payrolls: consensus est. +172,000 , last +151,000

Ave. Hourly earnings MoM: consensus est. +0.3% , last +0.1 %

Unemployment rate: consensus est. 4.9%, last 4.9%

Anyway, since we're talking about tapering, probably of more relevance is the situation in Europe and Japan where both the European Central Bank (ECB) and the Bank of Japan (BoJ) are trying to counter perceptions that they are considering tapering their monetary stimulus. You remember the Taper Tantrum, don't you? That famous (or infamous) event in 2013 when then Fed Chairman Ben Bernanke sent bond markets into meltdown by the very suggestion that the Fed might start scaling back its Quantitative Easing (bond purchasing) programme? Understandably and to put it mildly, central bankers would be keen to avoid that kind of massive overreaction even if the suggestion was true. Both the ECB and BoJ say it's not, and have been making manful attempts to squash the speculation. The trouble is, it can be desperately difficult to squash the rumour if it sounds credible enough ..... and true or not, this one does.

In Europe, confidence amongst bond market bulls has been a bit shaky since ECB boss Mario Draghi told us last month that the ECB governing council had not even discussed an extension to its QE bond-buying programme at its recent meeting. For a sizeable number of investors, it was both a slightly unexpected and definitely unwelcome piece of information. It gave rise to some speculation that the ECB itself was beginning to question the effectiveness of its stimulus measures. Against that kind of background, a Bloomberg report earlier this week that according to a source within the ECB Mr Draghi and his colleagues were discussing tapering, hit the market hard.

It should be stressed that the report held that under discussion was the best method of instituting the tapering process as and when the time came (by 10bn euros a month, say), and NOT the desirability of doing it any time soon. Nevertheless, it was enough to sent prices sharply lower (and yields sharply higher), moves that have only partially been reversed by denials from ECB spokesman Michael Steen. Officially at least, the ECB is more likely to extend its QE beyond March 2017 than to start to withdraw it. Needless to say, not everyone is convinced.

The situation is similar in Japan. Frankly, nobody is yet certain about the ultimate ramifications of the BoJ's changes to monetary policy announced two weeks ago. We do know that BoJ Governor Kuroda stressed that a reduction in monetary stimulus was not on the agenda, but there's a body of opinion that believes that the new policy moves "feel" like tapering by another name. How else would you describe a policy that is committed to steepening the yield curve but does not cut short-term rates any further? If the curve is to steepen and nothing moves at the short end, than by definition the long end MUST go higher, the argument goes. The BoJ's statements have been vague enough to disguise any intention and besides, one could argue that the BoJ has been forced into tapering by default .... they'll buy less because their already huge purchases have left them with a shortage of bonds to buy.

Running out of suitable instruments to buy is an issue in Japan and Europe, and for sure is a major factor behind the rise of the tapering story. An even bigger factor is bound to be that perception that central banks may be coming round to the view that ever easier policy just isn't working. As we say, it's a theory that's gained some traction because it's perfectly credible. Nevertheless, it would be a very big call to make, going as it does against virtually everything these particular central banks are saying in public. So for an entirely opposite view on bond markets, have a look at:

"Calling time on the bond bull run is a case of wishful thinking", conveniently also in the Financial Times, Markets and Investing

In it, Stephen Major of HSBC gives us his reasons as to why bonds are very much still a "BUY". Plainly, he does not buy into the tapering story ..... which only goes to prove that there are always at least two ways of looking at things.