What happened in July stayed in July for bonds

One month after talk that the 30- year bull market in bonds was ending, it's business as usual.

From the U.S. to Asia and Europe, fixed-income securities of all types have gained 1.23 percent in August, the most since January as measured by Bank of America Merrill Lynch index data. Junk-rated corporate bonds, after losing 0.94 percent last month in the biggest decline in more than a year, have returned 1.07 percent.

Central banks that keep plying the global financial system with cash are winning out over the threat of a flare-up in international conflicts as yields march toward all-time lows. With the yield on 10-year German government bonds dropping to a record-low 0.9 percent and rates on 10-year U.S. Treasuries falling back under 2.5 percent, investors are plowing into riskier securities they had soured on in July.

"Central bankers have been quite explicit in maintaining support," Robert Smalley, head of UBS AG's credit-desk analyst group in New York, said in a telephone interview. "In the near- term, that provides strength to the bond market with improving fundamentals and monetary support in place."

The global bond index is on track for its best returns in 12 years, with gains for the year extending to 5.75 percent. Effective yields on bonds worldwide dropped to a 15-month low of 1.63 percent on Aug. 28, approaching the record 1.51 percent reached last year. That compares with an average of about 3.08 percent during the past 10 years.

Draghi Boost

The drop in yields accelerated after European Central Bank President Mario Draghi hinted last week at more accommodative policies. With expectations for weakening inflation across the euro area, part of a cycle that could threaten to tip Europe into a deflationary spiral, Draghi signaled during a speech in Jackson Hole, Wyoming, that policy makers stand ready to add fresh monetary stimulus.

Effective yields on sovereign bonds worldwide slid to 1.44 percent from 1.56 percent at the end of July. They're 0.15 percentage point from the record low reached in May 2013, before the Federal Reserve began moving toward an end to bond purchases that have suppressed borrowing costs. Sovereign bonds have gained 1.33 percent in August, poised for their best performance since January, Bank of America Merrill Lynch index data show.

Gilts Rally

The gains have been propelled by a 3.4 percent advance on U.K. government bonds. In the U.S., Treasuries are poised to snap a two-month streak of losses with an increase of 1.2 percent in August, the data show. Turkish and Russian government debt were among the biggest decliners in the index, losing 0.6 percent and 0.5 percent.

Corporate debt globally has returned 1.31 percent in August, extending gains for the year to 6.72 percent, Bank of America Merrill Lynch index data show. The effective yield on the debt has dropped to 3.08 percent and is approaching this year's low of 3.07 percent reached in June.

The spread, or the extra yield investors demand to hold company debt instead of government securities, has tightened 1 basis point through the month to 169 basis points.

"There's very strong demand from institutional investors," said Craig Veysey, head of fixed income at Sanlam Private Investments Ltd. in London, which has about $10 billion of assets under management. "They're almost being forced into getting yield enhancement through corporate bonds or peripheral government debt, by the very low yields on offer from the highest quality government debt."

Economic Help

Media and utilities companies led the rally, gaining 1.82 percent and 1.71 percent. Auto companies and banks lagged behind, offering gains of less than 1 percent.

The rally is being aided by an expansion in the world's largest economy that exceeded forecasts, while U.S. companies post their biggest earnings gains in four years. The strength may help ward off any sustained selloff in the market, Smalley said. That is as long as companies don't ramp up shareholder friendly activities, which would dent credit metrics that have otherwise shown an improvement, he said.

Gross domestic product, or the value of all goods and services produced, rose at a 4.2 percent annualized rate last quarter, up from an initial estimate of 4 percent and following a first-quarter contraction, the Commerce Department reported yesterday in Washington. Corporate earnings before taxes rose 8 percent in the period, the most since the third quarter of 2010, after a 9.4 percent drop in the prior three months.

Chesapeake Bonds

The effective yield on speculative-grade debt that had climbed to as high as 5.88 percent earlier this month, was little changed at 5.48 percent on Aug. 28, index data show. That has been a boon for companies from Chesapeake Energy Corp. to Banco do Brasil SA, which led gains this month among the 50- biggest high-yield debt issuers globally.

Chesapeake's $1.1 billion of 5.75 percent notes coming due in March 2023 surged 5 percent this month, trading at 111.75 cents on the dollar to yield 4.1 percent, according to Trace, the bond-pricing system of the Financial Industry Regulatory Authority.

"People feel confident about the fundamentals in high yield," Margaret Patel, who manages about $1 billion in assets at Wells Capital Management, said in an interview. High-yield, high-risk, or junk, debt is rated below Baa3 by Moody's Investors Service and lower than BBB- by Standard & Poor's.

After investors pulled a record $7.1 billion from U.S. mutual funds and exchange-traded funds that buy junk bonds in the week ended Aug. 6, they've since plowed $3.6 billion back into the funds in the three weeks since, according to data provider Lipper.

Investment-grade corporate bonds have returned 1.37 percent this month, extending gains this year to 6.9 percent.

"As long as the pace of growth isn't deemed to be overly aggressive, which would prompt the Fed to be aggressive, the bond market won't be too unnerved by that," Adrian Miller, director of fixed-income strategies at GMP Securities LLC in New York, said in a telephone interview. "You have an understanding that central banks aren't running for the exits."