As Central Banks Start To Raise Rates, The Smart Money Is Studiously Ignoring Them

As Central Banks Start To Raise Rates, The Smart Money Is Studiously Ignoring Them
Andrew Rummer

about 2 years ago1 min

As central banks around the world start to tighten the supply of money into their economies to head off inflation, the bond market – the giant pool of debt controlled by the supposedly smartest investors out there – is reacting with shrug. And that could spell trouble for those betting on an end to the deflationary environment that’s held sway since the 2008 financial crisis. 

As the chart above shows, the yield on 30-year US government bonds (a.k.a. Treasuries) has barely budged this year despite soaring inflation and the Federal Reserve rushing to pare back its stimulus programs. Admittedly, short-term bonds are much more sensitive to central bank policy, but this seeming indifference has still left plenty of market watchers scratching their heads. 

Hypotheses for why yields have remained low despite inflation surging more than expected range from an excess of savings in the global economy to concern the Covid pandemic is far from done. Yet hedge fund giant Man Group has a report out this week with an even more alarming theory: the world has become so indebted that economies simply can’t deal with higher interest rates. Any attempt to raise them significantly will produce a crisis – in real estate prices, or private equity, or government finances – forcing central banks to quickly reverse course. 

“Any attempt to raise real rates will produce a very large financial shock somewhere, triggering an economic recession which, in turn, will kill off any inflationary pressure,” Man Group reckons. “A 30-year US Treasury position might generate significant P&L in a new deflationary shock and provide a good hedge against losses incurred in risk positions in other parts of a portfolio.”

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