Brandywine Global: Epochal moments and hangovers

Francis Scotland, Director of Global Macro Research at Brandywine Global explores the current macroeconomic landscape, providing an outlook on both the short and long-term investment implications of recent market events on global bond markets. 

“Twice in two years, civilization has faced an unexpected existential threat. First, it was the pandemic. Now, it is nuclear war. It all seems surreal and crazy. Hope rises and falls with efforts to negotiate a settlement between Russia and Ukraine and with each wave of the COVID scourge. The reality is that the war continues, and the tail to the pandemic could be long and unpredictable. At the Beijing Olympics, the world’s two most powerful autocrats signed a declaration of solidarity toward achieving a new world order. It took Russia’s invasion of Ukraine, but the 30 NATO member countries have started muscling up to defend the existing order.

“It all feels very unstable, globalization seemingly in retreat. The world order is transitioning from domination by a relatively benign global hegemon, at least from the Western perspective, to a more multipolar concoction of competing ideologies and interests. The late financial historian Charles Kindleberger identified these periods in history as inherently less stable. Buckle up. The instability and volatility are probably here to stay.

“From an investment perspective, the political and policy reactions to these events and developments are as important as the events themselves—both in the short and long term. The recent drawdowns in global bond markets, some of the worst in nearly 100 years, are the latest examples. The total return on the 10-year Treasury note fell roughly 10% from its high-water mark in 2021 to the recent low in March. German bund yields are no longer negative. Even the Bank of Japan had to step in to prevent Japanese government bond yields from pushing through their target band.

“The scale of the drawdown is noteworthy, given the modest rise in yields. The yield on the Treasury long bond is only about 20 basis points (bps) higher than a year ago. But the effect of low yields on extending duration is to intensify the price reaction to any rate change. This asymmetry may partially explain why the forward yield curves are flat or inverted. Mean reversion tendencies suggest at least a pause after drawdowns of this scale. These increases have brought bond yields in many developed countries to the upper end of the 40-year trends defining the secular bull market. Is this the beginning of the end? Or the end of the beginning?”

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