While equity markets do enjoy better attention of investors, it is the bond market that usually guides the direction of financial markets, including equity and currency markets.

The following recent signals from the bond market are worth noting:

US Junk Bond Yields fall below inflation

Investment demand for speculative-grade debt and high-yield bond exchange traded funds has been so high that yields on the riskiest U.S. companies are now below that of inflation. The rally in corporate debt rated below investment grade has also pushed yields down to record lows around 4.54%, compared to consumer prices that rose 5% in May year-over-year.

The head of equity research at Julius Bär, summarized the situation as “Inflation has risen to record-high levels in recent months, and the 10-year US bond yield has fallen to a fresh five-month low. What is the reason for the rally in US Treasuries? Obviously, investors believe that peak growth and peak expectations are already behind us. The US Federal Reserve’s (Fed) shift towards earlier-than-expected rate hikes has removed fears that inflation may run out of control, and falling purchasing managers’ indices from record-high levels support the case for decelerating economic growth. This is a normal mid-cyclical consolidation driven by base effects and most likely set to continue at least until Q1 2022.”

India: Credit risk category outperforming

In India also in past one year, the riskier corporate bonds have yielded best return as compared to the highly rated corporate and Sovereign bonds. The five year return on credit risk funds was less than half of highly rated corporate bonds and gilt.

These trends clearly indicate that bond market is not buying the theories of immediate full recovery to pre Covid level; sustainable higher growth, hyperinflation and imminent rise in borrowing cost.