Global bond market rally puts financial stocks under pressure

June 9, 2016 09:36 AM

A rally in global bond markets picked up on Thursday on waning expectations the Federal Reserve will raise rates soon, driving yields on safe-haven German Bunds to record lows, and putting pressure on shares of some of the world's biggest banks.

The dollar hit a five-week low against the yen, hurt by falling Treasury yields with investors preferring the traditional safety of the Japanese currency and core government bonds like Bunds amid heightened political risks like this month's UK referendum on European Union membership.

German 10-year Bund yields hit a low of 0.034%, not far from negative territory in which $10 trillions worth of bonds globally already trade at. The 10-year Treasury yields fell to their lowest level since February, while British 10-year gilt yields struck a record low.

Investors have almost priced out the chance of a rate increase at the Fed Reserve's June 14-15 policy review, and reduced the likelihood of a July rate hike to around 26%. With worries about a possible British exit from the EU gathering, investors are uncertain whether the Fed will indeed raise rates in the summer.

"The dollar has generally been a safe haven, particularly against emerging market currencies. But it remains underperforming against the more traditional safe havens like the yen," said Alvin Tan, a strategist with Societe Generale.

European shares fell for a second straight day dragged down by weakness in banking stocks. The STOXX 600 Bank sector index, which has been the worst sectoral performer so far this year, was down 0.6%, with Deutsche Bank, BNP Paribas and Barclays lower on the day.

Profitability in the sector is being hurt by the European Central Bank's ultra low interest rates. The ECB imposes negative rates on excess cash that banks hoard with the central bank, a charge that eats into banks' earnings.

Earlier, Japan's Nikkei fell 1%, hurt by a stronger yen with financials and banking stocks leading the losses amid lower bond yields. All of which saw the MSCI world equity index, fall 0.4% to 1,691.84.

The index had scaled a six-month high on Wednesday, when Wall Street's benchmark S&P 500  was just shy of all time closing highs. On Thursday, they Wall Street futures pointed to a lower start.

In the currency market, the New Zealand dollar was in the limelight, soaring to a one-year high after the nation's central bank kept rates steady as expected, even as some in the market had wagered on a cut.

On the other hand, the Bank of Korea unexpectedly cut its policy rate to a record low 1.25% amid weak inflation and stagnant exports. The BOK may also be looking to cushion the economy as the government drives a major overhaul of the struggling shipping and shipbuilding industries that could see large job losses.

OIL FALLS AFTER RALLY

The euro retreated from one-month peak of $1.1416, hurt partly by falling German Bund yields and on uncertainty stemming from Britain's June 23 referendum on whether to leave the EU. A British exit is expected to hurt the euro zone economy which is struggling with subdued growth and inflation.

In commodities, U.S. crude oil fell 0.7% to $50.85 a barrel after hitting a 11-month high of $51.67 a barrel. Brent crude rose to $52.86 a barrel, highest since Oct 2015, but was last trading lower at $52.07 a barrel.

Spot gold dropped after hitting a three-week high of $1,266.01 an ounce, while aluminium fell after climbing to a one-month high of $1,614.50 a tonne. Copper also fell 0.3%.

"I think gold is going to stay range bound until we see more confirmation. We need more confirmation from labour market data in the U.S. that we get in a month from

now. The market wants to see at least two data points," said Dominic Schnider of UBS Wealth Management in Hong Kong.

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