Investors’ appetite for high-quality bonds received a huge boost during June. Demand surged following a shock victory for Brexit campaigners in the UK’s referendum over its future membership of the European Union (EU). The news triggered turmoil in financial markets: equity prices plummeted and investors focused on perceived “safe-haven” assets, including the Japanese yen, gold, and investment-grade bonds. Bond prices soared and yields fell sharply over the month.
Bond yields’ progression into negative territory continued into June, gathering up new recruits as they went. The German ten-year government bond yield turned negative for the first time in its history: over June as a whole, the yield on the benchmark Bund fell from 0.14% to end the month at -0.13%. Meanwhile, the ten-year Swiss government bond yield fell from -0.31% to end June at -0.55% and the ten-year Japanese government bond yield dropped from -0.12% at the end of May to reach -0.23%. The thirty-year Japanese government bond yield more than halved during June, falling from 0.30% to 0.13%. The Bank of Japan (BoJ) pledged to release funds, if necessary, to support Japanese companies and ensure that they can continue to function.
Expectations of an imminent increase in US interest rates wavered in June, dampened by disappointing labour market data and question-marks over the outlook for US and global economic growth. The ten-year US Treasury bond yield deteriorated over June from 1.56% to 1.46%. US Federal Reserve policymakers promised to supply dollar liquidity, if necessary, in order to “address pressures in global funding markets, which could have adverse implications for the US economy”.
Credit ratings agency Standard & Poor’s (S&P) downgraded its rating for the EU from “AA+” to “AA”, citing “weakening political cohesion” and “greater uncertainty” in the wake of the UK’s Brexit vote. The yield on the ten-year French government bond fell sharply over the month from 0.49% to 0.20%. Looking ahead, issuance of European high-yield bonds is likely to be constrained by the UK’s decision to leave the EU, according to ratings agency Fitch, leading to “more financial distress and higher default rates for leveraged UK and eurozone issuers”. Fitch believes that credit investors are likely to bear the brunt of “declining debt-service capacity in the next default cycle”, and this will be reflected in the pricing of risky credit.