For bond investors, one trade that has always lost money has been the shorting of Japanese government bonds. This trade, unique in its consistency, developed its own name: ‘the widow maker’. Will other developed market government bonds follow suit?
As global central banks reignite their quantitative easing programmes, yield curve control (YCC) as pioneered by the Bank of Japan (BOJ) will likely be part of their strategy. By targeting a yield rather than the traditional approach of promising to buy a specific amount of bonds, monetary authorities have greater flexibility. The program can be easier to manage with fewer purchases needed.
The Reserve Bank of Australia appears to be the first major central bank to follow the BOJ in adopting YCC as part of its policy framework, and last month began targeting a 0.25 per cent yield on 3-year Australian government bonds. US Federal Reserve Governor Lael Brainard has also floated the prospect of YCC recently.
Over the past 21 years, Japanese government bond (JGB) yields have fallen from a peak of around 8 per cent in 1990 to around zero today. This is the direct result of the BOJ’s YCC policy, which has been in place since 2016. The BOJ has committed to peg yields on 10-year JGBs at around zero in a fight to boost persistently low inflation.
Is shorting high-quality developed market government bonds the new widow-maker trade? As our chart of the week shows, US, German, Australian, Canadian and UK government bonds yields are following an eerily similar path to JGBs in the early 1990s, suggesting that those forecasting a return to higher yields may be disappointed.
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