Bond yields began the week quietly, but dropped sharply on Tuesday as commodity prices were smashed: oil traded below USD$37 a barrel and iron ore traded below USD$40 a tonne. Australian 10 year bonds dropped 11bps on the day to 2.87%. Bonds then traded quietly until a huge spike in the Australian employment numbers on Thursday shocked markets. While 10 year bonds ended the day up 3bps, the 3 year bonds rose 9bps to 2.19%. Domestic markets then settled again by the end of the week with 3 year yields finished the week steady at 2.18% while 10 year bond yields fell 9bps, almost completely nullifying the previous week’s 10bps rise, to close at 2.89%. The 20 year bond finished the week at 3.40%, down 9bps over the week.
Markets seemed to be anxiously waiting for the US FOMC meeting due on 15/16 December where it is largely expected that the US Fed will raise interest rates for the first time in nearly a decade when an announcement by the Third Avenue Management group that it was shutting down its USD$789 million Focused Credit Fund began to create fears about a potential bond market crisis. The fund trades in high yield junk bonds* and has seen funds under management dwindle from around USD$2.5 billion in the past 6 months. It said that it was freezing redemptions because it did not want to “sell at prices that would disadvantage the remaining shareholders”. Markets had long been concerned about high yield funds and emerging market funds trading in debt that would be difficult to sell if and when interest rates rose. The US 10 year bond market closed the week sharply lower as markets sought out higher quality credit instruments.
UK and French bond yields fell by 10bps and 14bps respectively, while German, Italian and Japanese yields fell by 1-3bps.
*High yield or junk bonds are a term used to describe bonds which are not investment grade. That is, the bonds are not rated by a recognised rating agency or the bonds have a credit rating of less than BBB- from Standard & Poor’s or Baa2 from Moody’s Investor Services. The freeze by Third Avenue has sparked memories of how Bear Stearns froze redemptions on its mortgage backed asset securities funds in 2007 marking the transformation of the sub-prime crisis into the beginning of the GFC.
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