Global bonds and stocks lashed by policy rethink, talk of turning point
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By Ayai Tomisawa, Saikat Chatterjee and Dhara Ranasinghe
TOKYO/HONG KONG/LONDON (Reuters) - A sudden surge in government borrowing rates across the world has jarred global markets, reflecting mounting investor anxiety that central banks have run out of both tools and ideas to stimulate economies on their own.
Eight years after the credit bust and banking crash forced them to flood the world with cheap cash to refloat the global economy, central bank success in preventing a protracted recession has been soured by a failure to get growth and inflation back to pre-crisis levels.
A slow-growth world of flat wages, over-inflated asset prices and falling projected returns has since become entrenched, and electoral protests from angry citizens quizzing the benefits of globalization and capitalism are rife. Britain's June vote to leave the European Union is a prime example, but so is support for populist policies and parties across Europe and in the U.S presidential election.
Investors sense a rethink of macroeconomic policymaking will result from the political quakes, and this may put hopes of ever-easier central bank credit policies on hold while governments consider possible solutions from adjustments to spending and taxation.
"There is an injection of uncertainty over whether monetary policymakers are at a turning point," said Mizuho strategist Pater Chatwell.
The idea of a policy turning point, fostered by signs of hesitation at European and Japanese central banks and warnings by the U.S. Federal Reserve of the need to nudge interest rates higher for the second time in 12 months, has unnerved financial markets that have long been priced for many more years of paltry growth and inflation but relentless central bank support.
Deutsche Bank's annual report on world asset returns last week said the current constellation of economics, policy and markets marked an inflection point.
"We're about to see a reshaping of the world order that has dictated economics, politics, policy and asset prices from around 1980 to the present day," said the report. "Extrapolation of the last 35 years could be the most dangerous mistake made by investors, politicians and central bankers."
According to Deutsche, the common themes over the next 35 years will include: lower real growth, higher inflation, less international trade, more controlled migration, lower corporate profits as a share of gross domestic product and negative real returns in bonds.
QUAKE OR TANTRUM?
In just three days of trading, near record-low, or in some cases negative, long-term interest rates in Europe, Japan and the United States rose between a quarter and a third of a percentage point.
Long-term Japanese bond yields hit their highest levels in six months on Monday, while equivalents in the United States, Britain, Germany, France and Italy spiked to some of their highest levels since the 'Brexit' vote.
With equities increasingly priced to reflect superior yields versus bonds and drawing investment flows to keep them near record highs, ructions in the bond market have a ripple effect. The world's most-watched stock volatility index <.VIX>, reflecting options taken out on Wall St's S&P500 index of blue-chip stocks, topped 20 percent for the first time since late June.
The S&P500 index <.SPX> lost 2.5 percent on Friday -- its biggest fall in nearly three months -- and futures prices pointed to a lower start on Monday. Europe's STOXX 600 <.STOXX> was down 1.8 percent in a broad-based selloff while Asia bourses fell more than 2 percent earlier, with Hong Kong <.HSI> sliding 3.4 percent in its biggest one-day drop in 7 months.
"Today has become a bit of a perfect storm for selling," said Gavin Parry, Hong Kong-based managing director at brokerage Parry International Trading Ltd.
One trigger for last week's selloff is hard to pinpoint.
The European Central Bank's policy review last Thursday failed to hold out any extension of its bond buying program after next March. Hawkish comments from Fed officials kept the outside chance of a rate hike next week on the table when many had assumed it was on hold until after the U.S. election. And reports the Bank of Japan was about to take action to steepen its yield curve fueled a rethink of Tokyo's policy direction.
All played into the idea that the days of ever-easier monetary policy may be over shortly after last week's G20 summit spoke of better use of government fiscal policies where possible. Euro group finance ministers also discussed various aspects of collective and national spending on infrastructure and other projects, while even Germany flagged tax cuts next year.
END OF UNORTHODOXY
Some investors see the thinking at the Bank of Japan, one of the earliest adopters of unorthodox monetary policy, as a bellwether for other central banks. The practical limits Tokyo faces in buying government bonds and stocks and driving interest rates into negative territory are seen as a warning for policymakers and investors alike.
"It's a natural situation when we don't know what central banks will do," said the chief portfolio manager of a Tokyo-based fixed-income fund.
BOJ sources have said the central bank is thinking up ways to steepen the yield curve as a means to reduce short-term costs for businesses while protecting Japanese banks.
"We have been here before, though markets are increasingly looking at the probability that central banks may be running out of ammunition to help the global economy," said Nicholas Yeo, head of Chinese equities at Aberdeen Asset Management in Hong Kong.
(Additional reporting by Lisa Twaronite and Shinichi Saoshiro in Tokyo and Jamie McGeever in London; Writing by Mike Dolan in London and Vidya Ranganathan in Singapore; Editing by Hugh Lawson)
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