Global Bonds Are Reeling as Oil Surge Renews Inflation Threat

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(Bloomberg) — Global bonds are being pummeled by the latest resurgence in energy prices, delivering losses to investors who bet the worst of this year’s rout was over and teeing up credibility tests for central bankers.

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Benchmark UK gilt yields this week set their longest period of daily closes above 5% in almost two decades, Germany’s 10-year yield is at the highest since 2011, while their Japanese peers are close to levels last seen in the 1990s. The US 30-year yield is just below the most since 2007, while shorter-maturity Treasury yields this week hit their highest levels in more than a year.  

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Such is the extent of the selloff that the average yield on the Bloomberg Global Treasury Index — which tracks government bonds of investment-grade countries — has surged to 3.68%, surpassing a peak from three years ago to reach the highest since the global financial crisis in 2008. The benchmark is currently set for its biggest monthly loss since March.

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The simultaneous pressure on both front- and long-end yields comes ahead of a weekend that may deliver more geopolitical headlines. There are also a series of key central bank decisions due next week, including the Federal Reserve, Bank of Japan and Bank of England.

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A further selloff in bond markets would add to concern that global debt levels are becoming unsustainable, push up global corporate borrowing costs and risk spurring a rotation away from stocks. 

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“There are many of the same forces at play,” Torsten Slok, chief economist at Apollo Global Management Inc. in New York, said of yields rising across sovereign debt markets. “Oil prices are going up. That creates problems for the Bank of England, that creates problems for the Fed and, by the way, also creates problems for the European Central Bank.”

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Global debt markets have been battered this year by surging energy prices caused by the conflict in the Middle East. While crude tumbled in June as a ceasefire between Iran and the US appeared to take hold, renewed hostilities sent oil prices higher again this month — with Brent climbing above $100 a barrel on Thursday.

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The bond market has also been pressured by US economic resilience, with the jobs market and growth figures both remaining solid. That’s helped shift the expectation for Fed monetary policy this year to hikes from cuts. 

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Traders are also coming to grips with new Chairman Kevin Warsh’s revamp of Fed communications designed to provide less forward guidance — raising the prospect that any change in policy may come sooner than anticipated. Bets on a rate increase at the Fed’s July 28-29 policy meeting have risen, with the market-implied probability now standing at a one-in-three chance.

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“We know that Warsh does not want to provide the market with forward guidance, which is fine,” said Mark Cabana, head of US rates strategy at Bank of America. “But then the market has greater ability to price the outcome that it thinks the Fed should do, or price an outcome that perhaps will force the Fed to consider hiking.”