Dear Reader,
The Panorama newsletter is sent to Moneycontrol Pro subscribers on market days. It offers easy access to stories published on Moneycontrol Pro and gives a little extra by setting out a context or an event or trend that investors should keep track of. There is much chatter the world over about the unsustainability of government fiscal deficits, visible more acutely in advanced nations. America is at the centre of it, given that its debt burden is eroding the dollar’s value slowly. The US has been downgraded by rating agencies already, and the Wall Street isn’t happy about the way the administration is indulging in a spending spree.
Bond yields have firmed up across geographies and while they may be reacting to different forms of fiscal imprudence depending on the country, the underlying sentiment is that there will be more bonds than takers in future. Under the obvious fiscal implications lies a quiet development that is actually sending long term yields higher, in the US and the UK particularly.
Matt King of Satori Insights explains succinctly what is behind the “bond rout” of recent times in this FT piece here, free to read for Moneycontrol subscribers. The sell off in bonds has mostly concentrated in the long term which is 10 years and above. Notably, the spread between the 10-year yield and other long tenures such as 30-year yield has widened considerably. Japan and the UK are the two markets that have seen an outsized yield movement in 30-year bonds.
That is because the buyers of these bonds are insurance companies and pension funds, and both these have been curtailing their demand in recent times. As King elaborates, citizens have less need for long-term assets once populations go past the peak savings age -- Japan has the highest proportion of old people -- and regulation has been improving pension products, perhaps to make them invest in a wide range of long-term products. The upshot: Demand for long-dated government bonds isn’t going to grow the way it did in the past decades.
In India too, demand for long-dated sovereign bonds and state bonds is showing early fatigue this year. The sovereign yield curve has steepened sharply in the past three months with the tenures beyond 10-year showing a spike in yields. While part of this is because short-term yields have either remained benign or have declined, this part is quite small. There is a dearth of demand for long-term bonds this year because demand from insurers and pension funds has weakened.
Indeed, life insurance firms have seen tepid business growth in recent years and August this year was very disappointing. We highlighted why life insurance policies are not flying off the shelves. Slower business growth means less investible surplus and more fretting about investment options. That means buyers of long-term bonds are simply tightening their purses or perhaps even diversifying since regulation has enabled a slightly free hand in investments.
Should we be alarmed? More still, should governments be alarmed?
India’s low insurance penetration ensures that growth for life insurance and pension products continues to remain high. While short-term decelerations are par for the course, analysts believe that life insurance companies would see high double digit compounded growth in the decades to come. Therefore, demand for the government’s long-term bonds is taken care of. India is in a far better position and the current administration is prudent in managing the deficit.
The same cannot be said about others. America is in dire need of fixing its fiscally unfit house. Meanwhile, the Trump administration’s efforts to increase demand for Treasuries is taking them into risky uncharted products such as stablecoins. Ananya Roy warns how destabilising it would be not just for the US, but also other economies.
It is in the interest of governments to ensure that there are enough sources of borrowing for them in future. But more than that, governments need to take a hard look at their fiscal profligacy. A thriving demand for financial products that involve assessing a very long time period shows the maturity of financial markets and households’ understanding of them. It also shows that governments can count on sustained demand for long-term borrowing.
But it cannot be used as a rescue for bad spending habits of governments.
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