Jim Leaviss bemoans an unusual loss at work. Not a colleague’s retirement, but an obligation that has followed his career through booms and recessions, economic upheaval and a paradigm shift in government debt markets.
The UK gilt – which matured this month – was issued in 1996 with a semi-annual coupon of 8%. Leaviss was working at the Bank of England at the time and left to manage bond funds for M&G Investments in 1997, moving directly from the institution issuing the gilt to the one buying it.
His demise made him feel Proustian, he says, taking him back to the bond markets of the 1990s, where double-digit yields were normal and inflation was seen as more than just plain.transient.
It’s not just a British phenomenon; Bonds inherited from the 20th century are also approaching retirement elsewhere. In the United States, the Treasury with the highest coupon – 8.125% – expires in August. Nowadays, some countries sell 0% coupon debt, with nominal yields in negative territory. Once inflation is factored in, fixed income investors generally expect to lose money by holding developed market government bonds to maturity.
“There aren’t many emerging markets that give you an 8% return these days,” said Leaviss, who is now M&G investment manager for public fixed income. “If you are under 30, this low rate plan has actually been your life. “
Since the issuance of the 8% gilt, it has witnessed monumental changes in the way investment and public funding work.
The bond was barely a year old when the BOE gained independence from monetary policy. His teenage years coincided with the global financial crisis, straining UK finances, resulting in years ofausterity and cement a low interest rate environment. And in its later years, there was Brexit and the market fluctuations that followed, followed by a global pandemic.
The bond has barely traded in recent years, with 70% of the outstanding shares held by the BOE since 2011 as part of its quantitative easing asset purchase program.
Even more telling is the price at which the bond traded towards the end. He started with a yield to maturity above 8%, but started last year with a negative yield – a former foreignera concept that has now become almost a standard feature in developed government bond markets.
“When we have held the bond in the benchmark weight, I would always try to avoid selling it or becoming underweight, such is the difficulty of getting it back in the open market,” said Aaron Rock, Manager funds at Aberdeen Standard, who was in school. when the bond was first issued. “It’s the end of an era to see a gilter disappear with an 8% coupon.”
Inflation fears have returned to the market this year with the reopening of economies and the commodities boom, and a bond market measure is at its highest level since 2008.
But many investors, as well as top central bank chiefs, ultimately view current price pressures as transitory, partly derived from pent-up demand. This is reflected in the returns which historically have been around the lowest levels. US 10-year yields are around 1.5%, a quarter of their ’90s average, and the UK equivalent is less than 1%.
And the 8% bond is a reminder that economies have changed dramatically during this century.
“The historical experience of inflation over the past twenty years has been very different from the experience at the start of my career,” said David Parkinson, sterling rate product manager at RBC Capital Markets, who estimates that inflation remains under control. “The market has been conditioned for a considerable period of time that low and stable inflation be the norm.”
Beyond the dramatic change in rates, market veterans also remember a messier trading scene. The UK Debt Management Office – the institution created to issue debt after the BOE gained independence – currently maintains a well-defined schedule. But prior to its inception, there was no pre-announced schedule, and Parkinson remembers the BOE selling gilts in the middle of the night as the 1992 election results rolled in.
There were also a host of different bond structures, from convertible gilts that could be downgraded to a longer maturity at a predetermined price, to two-date issues that could be redeemed between two specified dates.
Some had affectionate nicknames, such as the ‘Maggie Mays’, inflation-indexed securities that could be converted to conventional gilts – an option taken up by investors after Margaret Thatcher won the 1983 election, as it was considered as being more able to bring inflation under control.
For many now, the biggest problem is the outsized impact of central banks on bond trading.
“As QE continued and more of the market was owned by the BOE, it hurt active management,” said Russ Oxley, a former fund manager who bought obligations for Ignis and Old Mutual Global Investors over a two-decade career.
For RBC’s Parkinson, who began his career in 1988, the expiration of the obligation offered a welcome trip down memory lane, although in the end he believes the current setup is superior. It may be a more sanitized trading experience, but any loss of color is offset by the societal benefits of a better functioning market.
“The gilts market now has the depth and flexibility that allows the UK to fund very substantial spending,” he said, highlighting the funds needed to fund the pandemic leave program. “It’s less eccentric and unpredictable, but you never get bored and the changes I’ve seen have generally been positive.
- The main political event is the Bank of England’s rate decision on Thursday, and investors will be looking for clues to the outlook for interest rates after the Fed’s hawkish pivot
- The European government bond offering will see Germany, Italy and the Netherlands sell around € 10 billion in debt ($ 11.9 billion), according to Citigroup Inc.
- UK to sell £ 400million of inflation-linked banknotes maturing in 2065
- ECB President Christine Lagarde appears before the European Parliament on Monday; Olli Rehn, Luis de Guindos, Fabio Panetta, Isabel Schnabel and Pablo Hernandez de Cos all speak out later in the week
- Data focuses on manufacturing and services PMIs for the eurozone, Germany, France and the UK on Wednesday; Germany releases Ifo figures on Thursday