The ominous upward creep in US Treasury bond yields in recent days leads to the inevitable question. Could this be the beginning of the end of the great bond market bubble?
The big jump in US durable goods orders revealed on Monday certainly reinforced the impression that the Federal Reserve may retreat from its unconventional monetary measures sooner than hitherto expected. The case for a 10-year Treasury bond on a yield of just less than 2 per cent when the equity market offers a tempting momentum trade also looks tenuous to those of a short term disposition. For those with long term pension liabilities it simply looks threadbare. Yet a clear-cut answer to the bubble question is not to be had.
Bond market bubbles are curious phenomena. They are not primarily about irrational exuberance because they are driven by greed and fear. Yields in the index linked market remain largely negative at present, which feels distinctly bubble-like. Yet they have been driven down by the perfectly rational fear that extreme monetary measures could lead to inflation and that inflation could be part of the solution to the developed world’s overhang of public sector debt. Perhaps this should not really be called a bubble because the protection offered by index-linked is invaluable if you fear the worst, even if the security offers a negative real return.