Hedge funds have played an instrumental role in this year’s rout in the US bond market by selling off more than $100 billion in Treasurys, according to a Bloomberg report.
Investors in the Cayman Islands, a major financial center and a known domicile for leveraged accounts, have been the biggest net sellers of US government debt, offloading $62 billion of sovereign bonds in February and dumping $49 billion in January, with Bloomberg citing data from the Treasury Department.
The sell-off began after the early January Senate run-off elections that were won by two Democrats. The victories gave that party a 51-vote majority in the upper house of Congress, including Vice President Kamala Harris, paving the way for a large new round of government fiscal spending. In March, President Joe Biden signed into law a $1.9 trillion stimulus package that passed 51-50 in the Senate.
The rollout of COVID-19 vaccines also contributed to investors deciding to exit bonds. As bonds sold off, rising yields prompted a return of convexity-type hedging flows, Bloomberg reported.
The bond market sell-off this year drove the widely watched 10-year Treasury yield above 1.7% for the first time since early 2020. The yield has since pulled back to around 1.58%.
In fact, the generation can expect average annual real returns of just 2% on their investment portfolios – a third less than the 5%-plus real returns that millennials, Gen X, and baby boomers have seen. Credit Suisse’s analysis took in average investment returns since 1900 and forecasted them going forward for Gen Z.
The yearbook acknowledges that marked deflation could increase bond returns, The Economist reported, but it said inflation is more of a concern. What the report calls a “low-return world” is yet another another financial obstacle for the generation, who may be on track to repeat millennials’ money problems.
“Like the financial crisis in 2008 to 2009 for millennials, Covid will challenge and impede Gen Z’s career and earning potential,” the report reads, adding that a significant portion of Gen Z is entering adulthood in the midst of a recession, just as a cohort of millennials did. “Like a decade ago, the economic cost of this recession is likely to hit the youngest and least experienced generation the most.”
Gen Z was hit hardest in the workforce
Gen Z been been impacted the most in the workforce, facing the highest unemployment rates.
They entered a job market crippled by a 14.7% unemployment rate in May – greater than the 10% unemployment rate the Great Recession saw at its 2009 peak. Those ages 20 to 24 had an unemployment rate of nearly 27% when the unemployment peaked last April according to data from the St. Louis Fed, more than any other generation.
Recessions typically hit younger workers hardest in the short-term, but can reap long-term consequences.
“The way a recession can really hurt people just starting out can have lasting effects,” Heidi Shierholz, a senior economist and the director of policy at the Economic Policy Institute, previously told Insider. “There’s a lot of evidence that the first postgrad job you get sets the stage in some important way for later.”
A follow-up study showed that by 2019, this cohort had narrowed that wealth deficit down to 11%. Such financial catch-up could be an optimistic sign for Gen Z in terms of regaining any ground lost building wealth during the pandemic.
However, millennials have had a 5%-plus annualized investment return on their side. With a projected 2% annual return for Gen Z, building wealth may be even harder to do.
There’s more to building wealth
Of course, stocks and bonds are just two asset classes. There are other ways Gen Z can build wealth, such as investing in real estate or by becoming successful entrepreneurs. Many Gen Zers have already embarked on an entrepreneurial path as early as their teen years, which could go a long way in wealth creation.
Within the next decade, Gen Z’s income will rise to such a point that they’ll effectively take over the economy, but their wealth could well be far behind previous generations by the time they get there.
US stocks hung around record highs Thursday, with the S&P 500 hitting a new high after insight from the Federal Reserve indicated that monetary policy makers will maintain their stance in supporting growth in the world’s largest economy as it continues to recover from the COVID-19 pandemic.
The S&P 500 index pushed further into record-high territory after reaching a closing peak in the previous session. Technology stocks marched up but blue-chip stocks tracked on the Dow Jones Industrial Average tilted slightly lower.
Stock futures ahead of the open showed little reaction to the Labor Department’s report that weekly jobless claims rose to 744,000, higher than the 680,000 claims expected by economists surveyed by Bloomberg. The report indicated that unemployment remains at persistently high levels, with the previous week’s reading upwardly revised to 728,000 from 719,000.
Here’s where US indexes stood at 9:30 a.m. on Thursday:
Members of the Fed’s rate-setting board expect “it would likely be some time until substantial further progress” on reaching targets of maximum employment and above-2% inflation, according to the minutes from the Federal Reserve Open Market Committee’s mid-March meeting released Wednesday.
“FOMC members were quite positive on short-term growth prospects, but made quite clear that short-term acceleration only goes so far towards their long-term “full employment” goal, suggesting even if growth remains robust through 2Q 2021, we’ll still be in a waiting pattern for Fed policy,” Guy LeBas, chief fixed-income strategist at Janney Montgomery Scott, told Insider in emailed comments.
“On balance, there was nothing material in the minutes which changes my view of a reduction in [quantitative easing] beginning in early-2022 followed by a potential first rate hike in late-2022,” said LeBas. “I view a 2022 QE reduction as much more likely than a 2022 rate hike,” he said. “If anything, the first hike will be later and the path of hikes steeper than what the markets have currently priced.”
Borrowing costs gauged by the 10-year Treasury yield hit a 14-month high Tuesday, with investors pricing in expectations of higher inflation and a stronger US economy as the government prepares to announce a new multi-trillion spending plan and more Americans receive COVID-19 vaccinations.
The 10-year yield marched up to 1.778% from 1.712% on Monday, extending this year’s fast-paced gain from about 0.9%. Alongside the gains have been pullbacks in technology shares that have largely surged in value since last March as investors sought exposure to companies that would fare well during extended pandemic-lockdown periods. Nasdaq-100 futures on Tuesday fell 0.8%.
The advance in the 10-year yield came as investors prepared for the unveiling by President Joe Biden of a $4 trillion infrastructure plan, potentially on Wednesday, according to the Washington Post. The price tag would include $3.5 trillion in tax hikes, the report said.
Such a pickup in spending would follow the $1.9 trillion fiscal stimulus package put into place earlier this month and more spending would lead the US government to seek more money to fund its plans.
“The prospect of higher debt issuance has seen the bond bears return lifting yields in the 10-year Treasury back above 1.70%,” and pushing up the US dollar, said Sophie Griffiths, a US and UK market analyst at Oanda, in a note.
While Washington and Wall Street gear up for more spending and higher consumer and producer prices, more Americans have been getting coronavirus vaccinations each day. Economists say a healthier population will lead to more businesses reopening and expanding their services. President Biden on Monday said 90% of Americans will be eligible for vaccinations by April 19.
While vaccinations are on the rise, so are new cases of COVID-19. Average daily cases are up about 15% in the past two weeks and average weekly hospitalizations have increased by 5%, the Centers for Disease Control and Prevention warned Monday.
A climb in long-dated Treasury yields stoked by US growth expectations has contributed to investors yanking more than $15 billion from bond funds this week, the largest outflow in a year, according to figures released Friday.
Borrowing costs are stepping higher as implied by the 10-year Treasury yield which is tied to a range of loan programs. The pickup in borrowing costs has put pressure on equities, particularly highly valued tech stocks, in recent sessions including on Friday. The 10-year yield was pushed up to 1.639%, its highest in more than a year and the Nasdaq Composite dropped 1.5%.
Yields have increased as investors price in a potential rise in inflation as the US economy recovers from the impact of the COVID-19 pandemic that threw it and other economies into recession last year.
Concerns about US bond yields was a factor in chasing more than $15 billion from bond funds during the week ended March 10, said EPFR, a subsidiary of Informa that provides data on fund flows and asset allocation. The latest outflow was the largest in nearly a year, it said in a note Friday. Bank of America, meanwhile, tallied bond outflows of $15.4 billion.
This week’s bond auctions included the sale of $38 billion in 10-year Treasuries. This week also marked the signing by President Joe Biden of a massive fiscal package under which $1,400 checks will be sent to most Americans.
“While the specter of another wave of US Treasuries hitting the market contributed to the growing angst about global borrowing costs,” wrote Cameron Brandt, director of research at EPFR, “the $1.9 trillion worth of stimulus they will be issued to finance added fresh fuel to the global reflation narrative.”
He said that narrative has “lit a fire” under equity flows. Equity funds tracked by EPFR raked in more than $20 billion for a fifth straight week. That keeps stock-fund inflows on track for a new quarterly record as year-to-date flows “moved within striking distance of the $240 billion mark,” said Brandt.
Brandt also said weekly bond outflows were spurred by the liquidation of funds linked to Greensill Capital, a UK-based supply chain finance company that filed for bankruptcy protection earlier this week.
Inflows into the equity market are strong despite the spike up in rates as investors respond to economic growth prospects by embracing risk and not staging a “taper tantrum”, BlackRock said in a note Monday.
Equity exchange-traded funds have raked in $120 billion so far this year, outpacing inflows into fixed income ETFs by 4:1, according to iShares data outlined by Gargi Chaudhuri, head of US iShares markets and investments strategy at BlackRock.
That rush of investor cash into equities has taken place at the same time that Treasury bond yields have made notable moves higher, including a jump past 1.5% on the 10-year yield last week.
“That’s not because the stock and bond markets have become untethered, but rather because rates are moving for the right reason: stronger U.S. growth,” wrote Chaudhuri in the note, describing equities as “resilient”.
Economists have broadly been increasing their forecasts for economic growth as vaccinations to prevent COVID-19 continue to accelerate. Meanwhile, House representatives in Washington last week passed a proposed $1.9 trillion stimulus bill, sending it to the Senate for approval. The US economy in 2021 could grow by the most in decades, said John Williams, president of the Federal Reserve Bank of New York, last week.
“Unlike previous bouts of rising rates (like the Taper Tantrum of 2013), equity investors have generally responded with risk-on reallocations into pro-cyclical exposures this time around,” said Chaudhuri.
The response by investors could also be explained by real rates remaining “extremely accommodative” at around -70 basis points after the recent rise, she added. Real interest rates exclude the effects of inflation.
ETFs skewed towards value and cyclical stocks will keep benefiting as rates continue to rise and the yield curve steepens, Chaudhuri said, “with over $8 billion of ETF inflows to the value factor corroborating this view.” The inflows of $8 billion represent nearly as much as the previous six months combined, BlackRock said.
Meanwhile, earnings forecasts for 2021 and 2022 should increase through the spring and summer, “further cushioning in the impact of the rise in Treasury yields,” said Ian Shepherdson, chief economist at Pantheon Macroeconomics, in a Monday note.
Shepherdson said the spread between Treasuries and the S&P 500 earnings yield recently fell to 115 basis points after widening by 363 basis points at the peak.
“A narrower spread is no guarantee of future equity gains, but it ought to provide of measure of comfort,” he wrote.
This article and headline has been corrected from an earlier version that said $8 billion has flowed into ETFs this year. That figure refers to inflows into value stock ETFs. The correct figure for year-to-date inflows into ETFs is $120 billion.
Warren Buffett described how hype around “hot” stocks can evaporate, reminded stock traders that their transaction fees fill Wall Street’s coffers, and celebrated American prosperity in his annual letter on Saturday.
The famed investor and Berkshire Hathaway CEO also joked about his age, bemoaned the outlook for bond investors, and admitted to overpaying for Precision Castparts in 2016.
Here are the best quotes from Buffett’s shareholder letter for 2020, lightly edited and condensed for clarity:
1. “Precision Castparts is far from my first error. But it’s a big one.”
2. “Investing illusions can continue for a surprisingly long time. Wall Street loves the fees that deal-making generates, and the press loves the stories that colorful promoters provide. At a point, the soaring price of a promoted stock can itself become the ‘proof’ that an illusion is reality. Eventually, of course, the party ends, and many business ’emperors’ are found to have no clothes.”
3. “In contrast to the scoring system utilized in diving competitions, you are awarded no points in business endeavors for ‘degree of difficulty.’ Furthermore, as Ronald Reagan cautioned: ‘It’s said that hard work never killed anyone, but I say why take the chance?'”
4. “Bonds are not the place to be these days. Fixed-income investors worldwide – whether pension funds, insurance companies, or retirees – face a bleak future.”
5. “Since our country’s birth, individuals with an idea, ambition, and often just a pittance of capital have succeeded beyond their dreams by creating something new or by improving the customer’s experience with something old.”
6. “In its brief 232 years of existence, there has been no incubator for unleashing human potential like America. Despite some severe interruptions, our country’s economic progress has been breathtaking.”
7. “Mrs. B, it should be noted, worked daily until she was 103 – a ridiculously premature retirement age as judged by Charlie and me.” – joking about Rose Blumkin, who sold Nebraska Furniture Mart to Berkshire in 1983. Buffett is 90 and Charlie Munger, his business partner, is 97.
8. “At Berkshire, we have been serving hamburgers and Coke for 56 years. We cherish the clientele this fare has attracted.” – referring to investor Philip Fisher’s advice to public companies to be consistent in their actions and communications if they want to attract a certain kind of shareholder. Fisher compared it to restaurants serving either hamburgers and Coke or French cuisine with exotic wines, but not both.
9. “Investors and speculators in the United States and elsewhere have a wide variety of equity choices to fit their tastes. They will find CEOs and market gurus with enticing ideas. If they want price targets, managed earnings and ‘stories,’ they will not lack suitors. ‘Technicians’ will confidently instruct them as to what some wiggles on a chart portend for a stock’s next move. The calls for action will never stop.”
10. “Investors must never forget that their expenses are Wall Street’s income. And, unlike my monkey, Wall Streeters do not work for peanuts.” – Buffett said a monkey who picked 50 S&P 500 stocks to purchase by throwing darts at a board would make money, as long as it resisted making changes to its portfolio.
Bond investors are witnessing the worst start to the year since 2015, as they sell off their debt on expectations that coronavirus vaccines will successfully aid recovery in the US economy, but lead to higher inflation, the Financial Times reported.
The Bloomberg Barclays Multiverse index, that tracks $70 trillion worth of debt, has dropped 1.9% in value, accounting for price changes and interest payments, since the end of 2020, the FT said.
If sustained at this level, it would mark the bond market’s worst quarterly performance in three years and the sharpest setback to the start of the year since the first quarter of 2015.
Longer-term US Treasuries have lost more than 9% in total return terms, according to a Bloomberg Barclays index of US government bonds. The 30-year US yield crossed the 2% threshold last reached in the middle of February 2020, reaching a closing point of 2.003%. Yields on 10-year government debt are also rising, having last jumped 1.9% to 1.4% on Wednesday, and even some 5-year yields are moving higher.
Bank of America said this week US yields have already reached its year-ahead target. “This is now realized, but it is over? The biggest risks to current trends include the long-term support levels nearby (yield resistance),” the bank said in a note on Monday.
Unless there is a sustained surge in inflation, rising bond yields will have a minor impact on stocks, said Richard Saperstein, chief investment officer at Treasury Partners. “Bond yields are rising right now because the market is pricing in the reopening of the economy for the post COVID-19 world and accelerating economic growth,” he said. “Widening credit spreads will likely have a greater impact on P/E’s than rising rates.”
Saperstein expects an inflation spike from March to May, because of economic scarring and elevated levels of unemployment, but does not see a sustained risk in 2021. “My advice for investors is to keep their fixed income durations shorter right now, because the income return is not enough to offset the price declines from rising rates. Any re-investments from fixed income proceeds should be limited to 3-year maturities.”
The 10-year Treasury yield pushed close to its highest level in a year on Monday, as the outlook for economic recovery prompted investors to continue selling bonds and search for higher-yielding assets.
The yield hit 1.352%, just shy of a 12-month high of 1.374% logged on Feb. 24, 2020.
The yield on the note has climbed about 43 basis points since the start of the year when it was at 0.92%. Yields rise when prices fall.
The move is part of a broader rise in global bond yields that reflects expectations for further economic recovery and a related pickup in inflation as the COVID-19 pandemic subsides.
The latest signal of growth in the US economy arrived Monday from the Conference Board. The business think-think said its Leading Economic Index rose by 0.5% in January to 110.3, better than the 0.3% consensus estimate from Economy.
“As the vaccination campaign against COVID-19 accelerates, labor markets and overall growth are likely to continue improving through the rest of this year as well,” said Ataman Ozyildirim, the Conference Board’s senior director of economic research, in a statement. The group now expects the US economy to expand by 4.4% in 2021 following its contraction of 3.5% in 2020.
The 10-year breakeven inflation rate, which measures the market’s inflation expectations, was at 2.14% and recently hit its highest level since 2014, according to Bloomberg data. The breakeven rate is the difference in yield between 10-year Treasuries and 10-year Treasury Inflation-Protected Securities, or TIPS.
Bank of America on Monday said US yields have already reached its year-ahead targets, including the 10-year surpassing 1.30% and the 30-year bond yield above 2.16%.
“This is now realized, but it is over? The biggest risks to current trends include the long-term support levels nearby (yield resistance),” the investment bank said in a note Monday. As well, weekly resistance strength indexes are “starting to flash oversold” signs and bonds are looking undervalued against small-cap stocks “similar to the dot com and [Global Financial Crisis] era,” it said.
Investors ditching bonds have been putting money broadly into equities, fueling a 15% year-to-date surge in the Russell 2000 index of small-cap stocks.