Emerging-market bonds are on fire, but there’s a worrying subtext to the rally as investors grow increasingly concerned about the long-term economic impact of the coronavirus.
While the dollar-denominated debt of developing nations advanced for an 11th week in the five days through Friday, the longest winning streak in eight years, indexes of stocks and currencies retreated as the spread of the virus showed few signs of slowing. That’s left bonds more disconnected from stocks and currencies than at any time this year.
The divergence underlines the concern that the rally may have less to do with the strength of emerging economies than the scramble for returns in a world where demand for havens is sending yields in the biggest economies ever lower.
Warren Buffett, speaking to CNBC on Monday, said investors such as life insurers were “stupid” but “very human” for responding to low interest rates by taking more risks.
The yield on the benchmark 30-year US Treasury bond dropped to an all-time low on Friday as the number of infections outside of China accelerated, fueling worries the epidemic will dent the world economy. US 10-year yields fell below 1.4 percent on Monday for the first time since mid-2016.
“The search for yield is supported by a perception that global yields will remain low for the foreseeable future,” said Anders Faergemann, a London-based senior portfolio manager at PineBridge Investments, which manages about $100 billion. “Yet, the resilience we have seen in EM hard-currency bonds—both sovereign and corporate—tells a story of continued support for the asset class and further capital inflows.”
MSCI Inc.’s index of emerging currencies dropped last week for the fourth week in five, sinking below its 100- and 200-day moving averages, levels that signal the potential for further declines. The MSCI stocks gauge slumped 2 percent.
It may not be as gloomy as some fear. Sara Grut and Caesar Maasry, analysts at Goldman Sachs Group Inc., say the relative safety of emerging-market debt is being driven by expectations that the virus’s impact will be temporary, and that easing by central banks will reduce the risk that the turmoil leads to defaults or restructurings.
“The downside risks, which tend to matter most for the pricing of credit risks, appear relatively contained,” they said in a note. The drawback, though, is that bonds may be less likely to rally along with equities and currencies if the virus is contained and sentiment improves, they wrote.
In South Korea, where the government raised the country’s infectious-disease alert to the highest level following a surge in new cases, the central bank was due to convene an emergency meeting Monday related to the coronavirus outbreak, ahead of the scheduled monetary-policy meeting on Thursday.
“It is no longer the problem of whether the Bank of Korea will cut or not, it is now whether it will cut once or twice,” said Min Gyeong-won, an economist at Woori Bank.
As policy makers struggle to find new ways to boost growth, attention is turning to fiscal policy. China said it will increase fiscal and monetary stimulus this year, while Malaysia will unveil an extra economic-stimulus package on Thursday. The start of February data releases will also give investors a clearer picture of the virus’s impact on global growth.
Coronavirus concerns aside, Malaysian Prime Minister Mahathir Mohamad submitted his resignation to the king on Monday, and his party exited the ruling coalition after infighting over his successor came to a head. South African Finance Minister Tito Mboweni budget’s on Wednesday could be key to determining whether Moody’s Investors Service downgrades the nation’s debt to junk. Argentina’s debt negotiations will continue, while Lebanon’s bondholders are bracing for a potential default next month.
Image credits: Bloomberg