While China growth has been slowing, and monetary conditions tightening, few (if any) have predicted any prolonged deflation (let alone a recession), yet overnight - for the first time ever - the $1.7 trillion Chinese bond market inverted, flashing a warning signal to the world that something is wrong.
Early on Thursday, the five-year yield rose to 3.71%, breaking above the 10-year yield for the first time since records began - even though the latter, at 3.68%, was near a 25-month high.
Some of the overnight weakness in the 10Y yield was eased by reports that PBOC would offer some Medium-Term Loans.
Of course it's not just bonds that are getting dumped...
But, as The Wall Street Journal writes, such a “yield-curve inversion” defies normal market logic that bonds requiring a longer commitment should compensate investors with a higher return. It usually reflects investor pessimism about a country’s long-term growth and inflation prospects.
Perplexed traders and analysts offered up many excuses...
“Many of us are scratching our heads for an explanation because this kind of curve inversion is absolutely not normal,” said Wang Ming, a partner at Shanghai Yaozhi Asset Management Co., a bond fund that manages 2 billion yuan ($289.66 million) in assets.
“The inversion is a form of mispricing in the bond market,” said Liu Dongliang, senior analyst at China Merchants Bank . “The fact that no one is taking the bargain despite the higher yield on the five-year bond just shows how depressed investors’ mood is.”
“It’s really difficult to predict when the selloff or such anomalies will end because China’s bond market is reacting to the regulatory crackdown only and is no longer reflecting economic fundamentals,” said China Merchants Bank’s Mr. Liu.
But of course, the reality is - without massive and contonued credit creation, there are very large questions about just how 'dynamic' Chinese growth could be and while technical flows are certainly part of the reasoning for 5Y yields rising, the question is, why wouldn't the rest of the world pile in to 'reach for yield'... unless the fundamentals really did have them worried?