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An active approach to bond market duration risk

Wednesday, August 09, 2017

An active approach to bond market duration risk

One of the biggest concerns that bond investors face right now is duration risk – the potential for a rise in interest rates to create a fall in bond prices. Given that the duration of government and corporate bond benchmarks has been rising for the past 20 years (chart 1), investors are wise to be mindful of this risk. 

 

 

We’ve experienced a long-term trend of falling bond yields, thanks in part to the extremely accommodative monetary policy that’s been implemented globally by central banks since the Financial Crisis. As yields have continued to fall, the behaviour of debt issuers has started to change. Many are taking advantage of this low- rate environment to lock-in an all-time 2012 low cost of debt for as long as possible. In June Argentina issued a bond with a  maturity of 100 years, just three years after its last default. Is 8% a tempting enough income to lend to Argentina for 100 years, considering the five defaults it has faced in the last century alone? 

The merits of individual issuers aside,  the importance of this change in  behaviour is that as issuers borrow for longer periods, the level of duration in bond benchmarks rises. 

 

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