Biggest Bond Bubble In History Is Turning Into Carnage

Wolf Richter's picture

Wolf Richter

“We’ve intentionally blown the biggest government bond bubble in history,” confessed Andy Haldane, Executive Director of Financial Stability at the Bank of England, to Members of Parliament in London last week. The bursting of that bubble was a risk he felt “acutely,” he warned. There have already been “shades of that.” And he saw “a disorderly reversion in the yields of government bonds” as the “biggest risk to global financial stability.”

And “shades of that,” as Haldane put it with classic British humor, namely understatement, are visible everywhere.

Ten-year Treasury notes have been kicked down from their historic pedestal last July when some poor souls, blinded by the Fed’s halo of omnipotence and benevolence, bought them at a minuscule yield of 1.3%. For them, it’s been an ice-cold shower ever since. As Treasuries dropped, yields meandered upward in fits and starts. After a five-week jump from 1.88% in early May, they hit 2.29% on Tuesday last week – they’ve retreated to 2.19% since then. Now investors are wondering out loud what would happen if ten-year Treasury yields were to return to more normal levels of 4% or even 5%, dragging other long-term interest rates with them. They know what would happen: carnage!

Wholesale dumping of Treasuries by exasperated foreigners has already commenced. Private foreigners dumped $30.8 billion in Treasuries in April, an all-time record. Official holders got rid of $23.7 billion in long-term Treasury debt, the highest since November 2008, and $30.1 billion in short-term debt. Sell, sell, sell!

Bond fund redemptions spoke of fear and loathing: in the week ended June 12, investors yanked $14.5 billion out of Treasury bond funds, the second highest ever, beating the prior second-highest-ever outflow of $12.5 billion of the week before. They were inferior only to the October 2008 massacre as chaos descended upon financial markets. $27 billion in two weeks!

In lockstep, average 30-year fixed-rate mortgage rates jumped from 3.59% in early May to 4.15% last week. The mortgage refinancing bubble, by which banks have creamed off billions in fees, is imploding – the index has plunged 36% since early May. But home prices have risen as private-equity funds and investors have gobbled up single-family homes, hoping that they could rent them out [which turned out to be difficult ... here’s my take: Housing Bubble II: But This Time It’s Different]. These inflated prices are now colliding with rising mortgage rates – and with the possibility that hot money might dump empty homes while it still can. Which would make for one heck of an ugly dynamic.

In low quality debt, the carnage has been particularly nasty – though it’s just the beginning. Frantic investors went to chase after yield that the Fed, in its infinite wisdom, had deprived them of elsewhere, and they sank their teeth into junk bonds, and overpaid for them in an epic feeding frenzy, and drove yields down to ridiculous lows, below 5% for some, though these bonds promised a relatively high probability of default and loss of principal to their hapless holders.

The absurd magnitude of the bubble was so glaring that even Fed officials who caused it began to get concerned, in part because financial institutions were loading up on junk. But on May 9, the party stopped, and the gnashing of teeth started. Junk bonds plunged and yields skyrocketed, with the BofA Merrill Lynch High-Yield index jumping from 5.24% to 6.44% by Friday [my take on how much more damage might be in store for them.... The Day The Big Fat Junk-Bond Bubble Blew Up]

Emerging-market debt got slaughtered as well, particularly dollar and euro bonds issued by companies that do their business and earn their profits, if any, in now plunging local currencies that once had been hyped as a sure bet against the dollar. Hype dies quickly. Now these companies face the insurmountable task of having to spend ever more of their weakening local currency to service their debts. There will be defaults. Billions will go up in smoke. In anticipation, these now crappy but previously wondrous bonds have taken a hard beating of almost 8% in five weeks. Emerging-market bond funds were hit by $9 billion in redemptions last week, the third largest ever. And it too is just the beginning.

All because of a single word. To its immense credit, the Fed, with its money-printing and bond-buying binge that is continuing at $85 billion a month, has accomplished a unique feat: shifting the focus of financial markets away from awkward economic and business fundamentals to what the Fed will do next. It worked like a charm for years. But now, what the Fed will do next has been boiled down to a single innocuous-sounding word: “taper.”

The mere possibility that the Fed might “taper” its binge has pricked the most insane credit bubble mankind has ever seen. A “disorderly” implosion could take down some big banks, and as Haldane put it, pose the “biggest risk to global financial stability.” So the Fed is now trying to figure out how to exit from its reckless experiment without taking down any banks; more TBTF bank bailouts would be embarrassing. Investors have taken note. Seatbelts are being fastened, and the clicks can be heard around the world.

While the S&P 500 has continued moving higher, with investor sentiment in America cautiously bullish, over the past month, there has been a huge increase in volatility; and emerging markets have been hit with big losses. Read.... Investor Sentiment Eroding Globally – Is America Next?

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Jean Hivier's picture

Federal Reserve Chairman Ben S. Bernanke pledged today - to prevent, and even attack bubbles everywhere.  A new small, elite government agency, the Bubble Attack Team (BAT) went into operation this week.

Today, Bernanke granted this exclusive interview with this Federal team.

"Mr. Chairman, tell me about this new team.  How will they operate?"

"Bubbles are bad for the economy, as we are beginning to find out.  My maniacal study of the Great Depression failed to teach me this.  We just found this out these past few days", quipped the Chairman as he sucked on his pipe.

"Note this.  I'm not making bubbles with this bubble pipe! I'm just sucking on pure aspartame. In fact, I've got a team of BAT-men combing the nation just looking for any bubbles.  They are armed with BAT-pricks, and they will prick any bubbles they find!", shouted the Chairman.. bubbles starting to foam at the corners of his mouth.

[As the bubbles foamed around the mouth of the Chairman, a team of five BAT-men rushed in and pricked them.]

Thanks guys, for that excellent demonstration.  Remember, bubbles are bad!  O.K., now guys, go find that Lawrence Welk bubble machine.. I want it destroyed!  And water-board Lawrence Welk with aspartame laced water!  He sucks!"

robnume's picture

Anyone who still thinks that the US financial markets are a safe haven has their head screwed on backward. Fasten your seat belts, indeed!! Oh, and get those oxygen masks, ready, too. Hope your "chute's" ripcord works, cuz it's gonna be a looong fall.

WhiteNight123129's picture

ok Guys,

Here is the advice from teh guy whose signature was


I think the Fed does not taper as much as people believe and Bonds rally,



Kayman's picture


Well said.  I don't know an historical precedent where a central bank, the Fed, had assumed the entire role of reviving a dying economy.  They are all in now and they clearly understand they are the only game in town. Interesting times, indeed.

Lets Buy The Dip's picture

and we would roll your comment up into one little MOTTO



delivered's picture

Let's face some hard truths and real facts:


- Real interest rates are already negative when comparing the 10 year yield of 2.2% to the real inflation rate (not the BS inflation rate posted by the government). Anyone that has to purchase healthcare insurance, higher education, utilities, food, and even housing now (increasing at what, a 10% annual rate) is experiencing inflation at a rate much higher than 1 to 2% per year. 

- UST bills are the equivalent of cash. Both yield basically nothing. Both are backed by nothing but faith. Both are technically debt (as a USD is a federal reserve note). Both can be printed in recorded amounts. And both are widely used as a means of exchange. The only difference is the wholesale/financial markets use UST bills while the retail/consumer markets use USDs. 

- Normalizing interest rates on $17 trillion of US debt would add roughly $350 to $400 billion a year to the annual deficit (2+% increase on $17 trillion in debt). So any hopes of keeping the annual federal deficit under $1 trillion (without severe cuts to defense and entitlements) would be long gone.

- The Federal government has made two of the most fundamental finance 101 mistakes on the books. First, it has borrowed "short" to fund long-term programs/investments (as the government in trying to keep its interest costs lower have issued more and more short-term bills). Second, it has incurred debt to finance losses (a lethal strategy no matter what type of entity your are). It would be one thing if the Federal government was borrowing to invest in real, productive assets (which would show up in a ratio of GDP growth to debt accumulation of being greater than one). It's entirely a different story when debt is being accumulated to finance the losses associated with teh entitlement programs.

- Who's left to buy US debt? Last decade, Social Security was running a surplus and was a buyer as where a number of eager foreign countries (recycling trade dollars into debt). Also, with a deficit of $300 to $400 billion a year, the markets could generally absorb this amount of debt. Today, SS is running a deficit, foreign buyers have either stopped or are exiting, and the annual deficit has averaged $1 trillion a year for four plus years. Buyers look to be scarce in the coming years, especially if rates are increasing (unless of course the Fed uses it bank proxies and forces them to buy US debt which should do wonders for the economy).

- Americans have been burned twice since 2000 in the equity markets and once in real estate. Now, they are loaded up with US debt and if this comes crashing down, they will be burned yet once again (with basically no place to run and hide as increasing interest rates will burn real estate, equity markets, and could really upset foreign exchange markets causing another massive timebomb to be set off). You have to figure a very large derivative book of business will absolutely meltdown if rates continue to increase in an uncontrolled and unorderly fashion which just like LTCM, LB, and BS before, created a system wide economic crash.

However with all of these facts, I'm not saying interest rates won't rise as they most likely will. In fact, interest rates really do need to rise to better price credit risk with required returns (as everyone knows the rating firms are not providing real or accurate ratings for so called "safe" soverign debt). The problem is, a sudden spike in interest rates will have profound and far reaching effects that will most likely make the mortgage meltdown look like child's play compared to the problems associated with widescale disruptions to the credit markets (as a result of increasing rates). Ben and the Fed know this and will be left with no other option other than to step in and support credit markets if rates get out of control. 

So here we are again, the Fed is damned if they do and damned if they don't and are basically left with no real or viable exit plan that won't create another major shock to the system. 



neutrinoman's picture

It's ZIRP that keeps bond prices rising, not QE. Once QE starts to taper or end, US IG bond prices will resume their upward course.

The bond market carnage started in April, before any taper talk. It's the prospect that QE will go on forever, sending risk assets to the moon, that had the bond market spooked -- it thinks, time to get out of boring IG bonds and into riskier stuff -- which is, after all, what the Fed wants.

While bond prices rise in *anticipation* of QE (as bond traders front-run), they fall once QE gets under way and holders of bonds start selling.

A combination of the end of QE and the next recession (whose risk is rising this year and next) will send bond prices yet higher and rates yet lower -- the 10-year UST might get as low as 1%.

(This logic only applies to bonds viewed as "safe assets," like USTs and, until recently, JGBs. A country's bonds can undergo a transformation, though, as the euro-peripherals did and France's probably will, and Japan's certainly will soon start to. Then the bond's nature changes to being a risk asset -- a junk bond, in effect. Then the end of bond-buying sends bond prices down. But even now, JGBs are behaving as "safe assets" -- their prices rose until April in anticipation of QE, then started dropping once the QE started, beautifully illustrating how this works and contrary to most of what you hear. It's only when that correlation changes -- when Japanese bond AND stock prices drop TOGETHER in a sustained way -- that you'll know the game is up in Japan. I expect this transition within the next year.)

are we there yet's picture

Yes US bonds are built on faith. If you have bought larger denonimation bonds over the years notice how the treasury places conficence inspiring images of strange people on Bonds. Some of my favorite are 'Albert Einstein' looking wise and intelligent, 'Hellen Keller' looking noble and purposful, My favorite is the American Indian chief 'Joseph' in full indian head feather native dress, Also John Kennidy looking inspiring, and the usual assortment of Hamilton, Wilson, etc.... Albert Einstein, Indian chief Joseph, and Hellen Keller are confusing images to promote US treasuries.... its all about apearances and empty illusion of a baseless fiat valuation of a baseless treasury bond. I cashed in a lot of them this last week.

blindfaith's picture



Without faith.....all  the fiat currencies, the bonds, the stocks... are just paper, no matter what god is printed on them.  Loose faith and it all falls down.  There will always be those who hold on to faith in the value of something, even when the house lights come on and the room is empty.  The world is full of dead paper, long forgotten.

Duc888's picture

Bring it on.

"Bankster" the other white meat.



Skin666's picture

Love your work Wolf!


Another great post

falak pema's picture

we do whatever it takes to stabilise the market. 

What more needs to be said?

THe CBs control the zombie market by fiat printing and can kicking until we have either a depression; preferably in BRIC world which is now a danger for corrupt first world; or a war in regions around oil patch which is the heart of real economic world AND fake fiat world; as well biggest market for guns and gold. 

The oligarchy world gets simpler every day as we take away the "uncertainty factor of creative destruction" so important to true markets; replacing it by Marx's prediction: a monopoly game which owns capitalism in increasing despotism à la 1984  until it goes POP. 

steve brassey's picture

 the longer the article, the lamer the content

Midasking's picture

After the bond bubble bursts I don't want to hear "nobody could have seen this coming"

ultraticum's picture

10-4 Frog Pot.

ribbit . . . . . ribbit . . . . ribbit.


madbraz's picture

There has been "no disorderly reversion in the yields of government bonds" - yields of AAA sovereigns sit confortably in the low end of their 3 year range.  If there was not QE, they would be lower, much like the were after QE1 and QE2.  This is a fact.



dolph9's picture

Interest rates on Treasury bonds can only go to zero, otherwise the entire global financial system collapses.

Unless some pesky foreigners out there decide to remove themselves first and start preparing.  Then it's only the financial system in America that will collapse.

BigJim's picture

 Interest rates on Treasury bonds can only go to zero, otherwise the entire global financial system collapses.

Only if the CB's don't hold a large enough portion of their nations' debts.


People forget that, while huge, the pool of treasuries is limited; if the CB buys enough of them, interest rates can be allowed to normalise, because interest on those CB-held treasuries just gets remitted back to their respective governments. And the CB's can forgive the debt when it matures.

Inflationary? Sure. But if interests rates are allowed to rise that'll put a cap on that.

Disaster for the non-FIRE economy? Sure - but what do they care? 

USGrant's picture

No, that experiment was already conducted by the Reichbank. Once the central bank is the sole buyer of soverign bonds to fund the deficit then inflation accelerates. Interest rates then have to exceed the inflation rate to lure real buyers which is effectively impossible. The end is coming as the FED is buying 70% and the list of other buyers is shrinking. My take is that the only reason this hasn't blown up yet is that Treasuries seem to have morphed into a currency for the rehypothecation schemes. But this too is dependent on a stable interest rate. Once rates rise their currency status disappears.

Paveway IV's picture

This is great news. Just think of all the millionaires this will create in the US. I'm going to start spending my future millions now - why even wait? I'll be rich.

Poor Grogman's picture

The FED buying 70% of usg bonds, must be a conspiracy theory right?

Otherwise we would be headed for certain financial doom, or a world war so it can't be true...

Winston Churchill's picture

Like stockpiling huge ammounts of raw materials and gold ?

Naw, nobodies doing that, or doing bilateral trade deals.

So all is good ?


For Sale: One skittle shitting Unicorn,one previous owner,

low mileage, good bodywork.

madbraz's picture

Interest rates can be (and are already in some cases) negative.  As long as there is demand for the bond the price of it can appreciate.


Should the stock market one day lose 90% of its value, you can be sure that our 10 year government bond rate would be well into negative territory.  In other words,  it is better to buy a govt bond and be assured of receiving $98 for every $100 invested (say if you buy the 10yr bond on the market at a negative interest rate and hold it to maturity) than to hold the stock market when it has realized losses of $90 for every $100 invested.  


If this occurs, and you are lucky enough to have bought the 10yr bond at 2.2%, you can still make a ton of money on government bonds.  A government bond of a reserve currency issuer is money.  You will never hear the turds on CNBC telling you that, even though it is the "currency" of our country and shouldn't be treated like the enemy.  The real enemy is the stock market.

Jean Valjean's picture

What are you MDB's evil twin?

whotookmyalias's picture

If I thought the stock market was going down by 90% and that interest rates on Bonds would turn negative, I would

  1. Pull my money out of the stock market
  2. Buy physical gold and silver
  3. Buy guns and ammo
  4. Buy SHTF supplies
  5. Buy barter items
  6. Stack a couple thousand in cash in my safe
  7. Bury the rest in an empty ammo box in my back yard

This will give me much better returns than stocks or bonds.

Oh, in the future, touting an investment as a good idea requires "goodness", not "less badness than other options"


klockwerks's picture

Anything else? Already have done all of that plus some.

economics9698's picture

"If this occurs, and you are lucky enough to have bought the 10yr bond at 2.2%, you can still make a ton of money on government bonds."

Ahhh dude bonds lose mega value when interest rates go up.  One of these bond traders could probably quote you the exact formula but trust me bonds lose value FAST when interest rates go up. 

Ahhh and if interest rates are going up inflation is going up soooo that 10 year at 2.2 might lose 3.8% a year.  2.2% - 5% inflation rate = -3.8% x 10 years = ouch! 

Did anyone tell you ZH was real popular with Wall Street geeks?  Just wondering.  

These guys don’t know much but they do understand 1s and 0s.


o2sd's picture

Umm ... US treasuries are sold at discount. As long as you hold the bond to maturity, all of your market risk has been realised when you purchase the bond. Of course, the bond issuer could always default on the final payment (like, saaaaayyy ... Greece), but that is issuer (credit) risk, not market risk.

The discount rate is the inverse of the yield, nothing complicated about it. When the bond price goes down, the implied yield (at maturity) goes up. For zero coupon bonds (like US Treasuries) the ratio is 1:1. For coupon bonds, it's more complicated. The notional value of a coupon bond doesn't change with interest rates, but it's present value does. The change in PV of a coupon bond changes with interest rates (basically the sum of the discounted cashflows, where the discount factors are taken from the risk free curve), but the notional value remains the same.

You are correct about inflation though. If inflation is higher than the risk free rate, the real return on the bond will be negative. However, inflation from the late 20th century onwards is entirely a monetary phenomenon, so the aggregate demand (money supply) should not rise any faster than the expansion of the money supply through credit creation (i.e. the risk free rate).

One exception to this general rule is when production collapses, which is what happened in Zimbabwe. Currently the US has no shortage of production capacity or supply, and neither does China, so supply will not collapse. Another possible exception is Bernanke's grand liquidity experiment, which is having a very inflationary effect in equities markets, but has done very little to aggregate demand. It is possible that the collapse of that grand experiment will cause massive deflation in the prices of financial assets, whether that will be inflationary to the wider economy is difficult to tell. The US is mostly self sufficient in basic commodities except energy, and even that has changed quite a lot recently.


madbraz's picture

What a lousy article - this should be on CNBC.

kchrisc's picture

Don't make comments like this without backing it up with details--educate us and make us think.

If you are correct we will soon see the wisdom of your views and if you are incorrect, we will know why.

Notarocketscientist's picture

There's a word for people like you .......  WANKER

disabledvet's picture

there was a time when interest rates were at 12 percent on the long end and inflation was running wild. OPEC really did have us over a barrel and it looked like the Western World really was on the verge of flying apart. Instead...everything just started working again...not well, just...working. Who knew? Anyhow inflation has pretty much ceased to exist. You could argue that's a good thing...but it really is a sign that cash money is VERY dear right now. calm before the storm? there is no lack of liquidity in equities and on Wall Street. Indeed they're all on board the "putting that money to work" train and indeed this is happening. Here's good example this company was left for dead a year ago. It has now DOUBLED it revenue in that time frame...with an equity price that has soared 100 percent at the same time. For all the Haute Oilture "this is mere dry gas"...too good for all "oil majors" who spent their time in every geo political hell hole on the face of the planet. that's right folks..."merely dry gas." of course while T-Rex Tillerson is back on Capitol Hill demanding more money from the taxpayer for his massive oil company "that he's losing his shirt on" (called Exxon Mobil) "Cabot oil and gas is fully prepared and ready to make money should natural gas prices drop back down to two bucks" where that price was just over a year ago. hmmm. Go figure. capitalism that doesn't need a bailout. "stay long Pennsylvania." that's where oil was discovered in the first place....and back then they had to work for their barrels...ONE AT A TIME.

Diogenes's picture

The inflation/stagflation of the seventies ended when the price of oil dropped drastically in 1980 or 81.

The price of oil dropped the day the first shipload of North Slope (Alaskan) oil arrived in Los Angeles harbor.