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Bonds Get JPMorgan’s Vote of Confidence. Sort of.

Bonds Get JPMorgan’s Vote of Confidence. Sort of.

(Bloomberg Opinion) -- JPMorgan Chase & Co. has long been the world’s largest underwriter of bonds, giving the firm perhaps the best insight into where the market is headed. In that sense, bond bulls should be happy to hear that the firm’s strategists believe the rally in benchmark U.S. Treasuries that pushed yields to their lowest since 2017 for maturities out 10 years isn’t a bubble waiting to burst. But then again, they also don’t believe that bonds are a bargain.

Treasuries across the curve rallied on Tuesday, as a lack of progress in resolving the various tensions between the U.S. and its key trade partners sent investors scurrying into the safest assets. In cutting their year-end forecast for 10-year yields to 2.45% from 2.55%, the JPMorgan strategists gave a nod toward the likely negative fallout on the economy from escalating trade pressures. “Recent data indicate weakness in the domestic economy even prior to the increase in tariffs, and we now see the (Federal Reserve) on hold through the end of 2020,” they wrote. The new yield forecast is below the 2.70% median estimate of almost 60 economists and strategists surveyed by Bloomberg. The bad news for bond bulls is that 10-year Treasuries yielded 2.27% on Tuesday, below all but two of the estimates in the Bloomberg survey. At these levels it’s easy to say that bonds have gotten ahead of themselves, forecasting an overly pessimistic outlook for the economy. The Conference Board’s index of U.S. consumer confidence released on Tuesday rose by more than expected to the highest since November as Americans felt the best about current economic conditions in 18 years. That being said, the bond market has often made even the smartest investors look dumb.

Bonds Get JPMorgan’s Vote of Confidence. Sort of.

Even JPMorgan Chief Executive Officer Jamie Dimon seems to be changing his tune a bit. Generally positive on the economic outlook, he said at a banking conference in New York on Tuesday that trade issues have become more than just a “skirmish” and are a bigger risk to the economy. The firm’s economists last week cut their second-quarter gross domestic product growth estimate to a paltry annualized rate of 1% from 2.25%.

THE  BONDS THAT SHOULD WORRY STOCKS
The question is, how much lower can yields go? Based on recent history, much lower. Although the average yield on all types of bonds as measured by the Bloomberg Barclays Global Aggregate Index has dropped to 1.73% from 2.27% in November, it’s far above the record low of 1.07% in 2016. The thing to watch, at least for equity investors, may be the total stock of negative-yielding debt, which has surged to $10.7 trillion worldwide from $5.73 trillion in early October. Declining yields and narrowing yield curves give banks more of an incentive to hoard deposits than lend, which tends to crimp profitability. And it’s almost impossible to have a healthy economy without a healthy banking system. It’s notable that in the U.S. alone, excess liquidity among banks - deposits minus loans – has surged by about $182 billion to a record $2.97 trillion, as measured by the Fed. This has implications for the stock market because banks and financials are such a big part of major indexes. And since October, when the total amount of negative-yielding debt started to rise, the MSCI global bank index has lost 6.79%, more than double the drop of 3.20% in the broader MSCI All-Country World Index. In its just-released list of the 10 investment-grade corporate debt issuers that are expected to underperform over the next six months, research firm Gimme Credit has three from the banking sector: Goldman Sachs, Barclays and Deutsche Bank.

Bonds Get JPMorgan’s Vote of Confidence. Sort of.

HOPE IS LOST IN EMERGING MARKETS
After months of saying the U.S. and China were close to a trade accord, President Donald Trump is now suggesting that the two sides aren’t very close to any sort of agreement. “They would like to make a deal. We’re not ready to make a deal,” Trump said during his state visit to Japan. No asset class has suffered more from the talks collapsing than emerging-market stocks. The MSCI Emerging Markets Index of equities is down 8.46% this month, versus a decline of 4.57% for the MSCI All-Country World Index. And investors see no reason to buy this dip, suggesting they’re not optimistic that the talks will resume any time soon. Exchange-traded funds that invest across developing nations as well as those that target specific countries suffered outflows for a fourth week, according to Bloomberg News’s Aline Oyamada. Outflows totaled $1.17 billion in the week ended May 24, bringing withdrawals during the losing streak to $6.4 billion, data compiled by Bloomberg show. Emerging-markets currencies are also headed for a loss in May, which would mark the fourth straight month of declines. In fact, the last time both emerging-market equities and currencies fell in the same month was in October, showing the degree of pessimism that is sweeping the market. “Investors have largely given up on the positive scenario, but the worst case is also not priced,” Citigroup strategists led by Dirk Willer wrote in a research report.

Bonds Get JPMorgan’s Vote of Confidence. Sort of.

POLITICAL RISK EMERGES IN SOUTH AFRICA
As one of the most liquid and heavily traded currencies in emerging market, South Africa’s rand can have a big influence over the direction of developing-nation foreign-exchange rates in general. That was certainly true Tuesday, as the rand suffered its biggest decline since early September by depreciating as much as 2.22% and dragging the MSCI EM Currency Index lower. The broad currency gauge declined even though the Brazil real, Turkish lira and Argentine peso all appreciated. As is typical these days, the rand’s weakness is tied to an uncertain political situation. Traders didn’t take kindly to an unexpected delay in the appointment of President Cyril Ramaphosa’s cabinet, which stoked concern that there is opposition to his reform agenda. The currency’s slide on Tuesday started when the ruling African National Congress confirmed David Mabuza would be sworn in as a lawmaker, opening the way for him to be reappointed as deputy president, according to Bloomberg News’s Colleen Goko. Mabuza was linked to scandals while he served as premier of the eastern Mpumalanga province, though he denied the allegations and hasn’t been charged. His reappointment could set back Ramaphosa’s efforts to repair the reputational damage to the party after his predecessor Jacob Zuma’s scandal-marred nine-year rule. The delay in the appointment of a cabinet suggests Ramaphosa’s isn’t having it his own way as he negotiates with factions within his party, Goko reports.

Bonds Get JPMorgan’s Vote of Confidence. Sort of.

A RALLY FOR THE WRONG REASONS
Long suffering agriculture bulls are finally getting a chance to rejoice, but that doesn’t mean there’s likely to be any celebrating down on the farm. The Bloomberg Agriculture Spot Index surged as much as 2.96% on Tuesday for its biggest gain since mid-2017. Corn, soybeans and wheat all saw big increases. But it wasn’t surging demand or a breakthrough in the trade wars that sparked the rally – rather, the gains were almost solely due to bad weather, with rain hammering the U.S. grain belt and keeping farmers off their fields. Rainfall that has been steady this year will keep falling across the Midwest and Great Plains, preventing farmers from catching up on spring plantings of corn and soybeans, according to Bloomberg News’s Michael Hirtzer and Megan Durisin. Parts of Iowa, Nebraska, Kansas and South Dakota were under watch for floods, the National Weather Service said. Some farmers were running up against deadlines to plant their crops and still be covered under insurance policies to protect against losses in yield or price. Wheat prices jumped as much as 4.9% on worries that flooding will reduce the quality of fields planted in the winter and typically harvested beginning in June. Corn prices reached their highest since 2016. For farmers hurt by the U.S.-China trade war, not being able to take advantage of soaring prices because of bad weather just adds insult to injury.

Bonds Get JPMorgan’s Vote of Confidence. Sort of.

TEA LEAVES
The Bank of Canada, long considered the most hawkish major central bank in the world, dropped its long-held bias for more interest-rate increases when policy makers met last month, in part citing a global slowdown. The move was a mild surprise given how energy prices had rebounded. Plus, indexes run by Citigroup show that Canada’s economic data has been exceeding forecasts by about the greatest degree since 2010. The Bank of Canada has another monetary policy meeting Wednesday, and while no one expects it to do anything on rates, the real action will be in what it says about the likely path going forward. In other words, will it be on hold for the rest of the year and resume rate hikes in early 2020 or does it see the need to possibly raise rates this year? Either way, don’t expect policy makers to sound overly concerned. Governor Stephen Poloz said May 17 that there’s much evidence the economy is strong, calling signs to the contrary just a “detour” and saying interest rates will rise once the headwinds dissipate.

To contact the editor responsible for this story: Beth Williams at bewilliams@bloomberg.net

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Robert Burgess is an editor for Bloomberg Opinion. He is the former global executive editor in charge of financial markets for Bloomberg News. As managing editor, he led the company’s news coverage of credit markets during the global financial crisis.

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