What’s worrying Europe’s bond investors

Yields adjusting to economic reality: Strategist
Yields adjusting to economic reality: Strategist

Buy anything but European bonds! The recent correction in government bond prices does not reflect a buying opportunity! Capital preservation remains the name of the game!

At least, that's the message from Julius Baer's strategy team after the big bond rout of the last week or so.

The selloff – which has seen government bond yields creep up in both Europe and the U.S. -- can be attributed to a whole host of reasons, from stretched valuations, misplaced deflation assumptions, liquidity conditions and plain old over-crowded trades.

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The current volatility in the bond markets, especially at the long end, does not bode well for fixed income investors, says Julius Baer's Roman Canziani. What's worrying for him is that there was no specific fundamental trigger for the sudden rise in volatility.

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On the rationale for this rise in volatility, Canziani points out that investors who are chasing stable "Value at Risk" in their portfolios often size up their trades where volatility is falling.

However, in the current environment where volatility is rising, these investors are being forced out, in effect exacerbating the moves in the underlying bonds and yields.

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The private banking group also cites good old supply and demand, as roughly 60 billion euros ($68 billion) of European government bonds are set to be issued in the coming two months.

In summary, Julius Baer is sticking to its call that yields are still below fair value in Europe and that there are much fairer absolute yields in high investment grade USD bonds, where spreads are higher and volatility is lower.

- Follow Steve on Twitter: @steve_sedgwick