It seems that nothing can break the bond rally — or deflate the bond bubble, as critics would say. Inflows into bond funds have hit a record this year, in tandem with record high bond prices, but how long can the euphoria last?
As long as interest rates remain low, the bond market rally is likely to continue. And interest rates could stay low for longer than many expect, according to analysis by Oxford Economics that looked at retirement savings around the globe.
Although some experts have warned that the retiring baby boomers will push real interest rates up because they will start spending instead of saving, Gabriel Sterne, head of strategy services and Callum Donnelly, global economist at Oxford Economics, wrote in recent research that this is only part of a more complex equation.
The impact of retiring baby boomers will be largely offset by saving rates that will remain stubbornly high for another two decades, according to their analysis.
One factor that will contribute to this is the rising life expectancy, which will increase saving throughout working lives.
“In our view, it is a potentially serious mistake to assume that tomorrow’s 65-year-old saves like today’s. As working lives lengthen, savings behaviour will adapt,” the two analysts wrote in the report.
Another offsetting factor will be the emerging markets, where the demographic shift to a big retiring cohort will happen later than in developed markets.
Emerging markets “will pull up global saving rates as they have relatively high saving rates and account for an ever-increasing share of global GDP”.
Overall saving is driven by the middle-aged – for example, in developed economies those in their late 40s save 2.6 times more than those in their late 20s.
“Emerging markets’ own baby-boomer bulge – up to 25 years younger than that of the advanced economies – is now migrating to a high-saving part of the life-cycle,” the Oxford Economics analysts wrote.
Besides, according to the analysts’ projections, the household savings rate in emerging markets will be much higher; for instance, it is estimated at around 30% versus 7% in advanced economies in the period 2015-2020.
All this means that far from rising, real interest rates could stagnate at low levels or even fall deeper into negative territory.
Bonds will be the main asset class to benefit from this. They are already having “more fun,” in the words of analysts at Bank of America Merrill Lynch, who noted that in the past 10 years bond funds attracted $2.3 trillion, compared with only $300 billion that went into stock funds.
So far this year, bond inflows have reached a record, and bonds are heading for their best year ever. In the past week, bond funds saw inflows of $13.7 billion, with money going into every major bond sector, whereas equities saw investors withdraw $7.1 billion from every major region.
With Brexit uncertainty dialled up after the appointment of Boris Johnson as UK prime minister and the trade war in full swing, safe havens are in high demand.
Over the longer term, demographics suggests that appetite for bonds will remain high. But even in the short term, don’t bet on the bond rally reversing just yet.