Fear returns to markets with plunge in bond yields

Treasury bond yields do not tumble 35 basis points in the space of a few minutes every morning. There is no possible explanation for such a fall in the economic data that normally move the bond market, so Wednesday’s sudden plunge in Treasury yields, even though it was mostly reversed by the end of the New York trading day, suggests that the market pathologies we all grew to know during the crisis of 2008 are returning.

That alone is enough to spook anyone investing in equities. Such a fall in such a liquid market implies that someone, somewhere is under stress. Much like the “flash crash” of early 2010, which presaged a long period of volatility before the post-crisis rally resumed late the next year, it is a symptom of distress that cannot be ignored, even if the immediate effects are quickly reversed.

The broader picture suggests that the conventional wisdom is about to face a severe test. The end of quantitative easing bond purchases, due later this month, was always billed as a moment of risk for securities markets, even if QE has, as promised by the Federal Reserve, been tapered off very gradually. But the problem was supposed to be that bond yields would suddenly rise, once their support had been removed. There was no space in this world view for yields to fall, and certainly not to the 1.86 per cent level they briefly hit on Wednesday morning.

This is approaching the 1.63 per cent that the 10-year Treasury was yielding before the Fed embarked on “taper talk” in May last year. Yields could not have come down this far without deep unease about the health of the global economy – even if the suddenness and severity of this morning’s movement will require a deeper explanation.

As for other asset classes, the 28 per cent dive in the price of Brent crude since June also has no healthy explanation. The internal politics of Opec supply, combined with concerns over global economic growth, certainly justify a fall in the oil price, but as with bond yields, the extent and suddenness of the fall suggests that something is amiss.

In this environment, stocks are remarkable chiefly for their resilience. The S&P 500 – unlike European stocks – continues to avoid a 10 per cent correction; it bottomed 9.9 per cent below its all-time high, set on September 19, and rebounded.

And even as the prognosis for the global economy worsens, equities could continue to be perverse winners, as they have been for the past five years. Low bond yields are good for earnings multiples and profit margins – and so the apparently unsustainable dynamic where what is bad for Main Street is good for Wall Street could yet continue a while longer.