Top central bankers warned on Monday against complacency about the risk of holding debt, saying they were puzzled by low bond yields. Yields on long-term bonds for some major countries have touched historic lows in recent months even as the world economy rebounds and many central banks tighten credit.
Some market strategists are worried that four years of super-low interest rates in the world's leading economies have inflated a bond market bubble. Now central bankers are now stepping up their warnings.
"Real interest rates that seem to be quite low (are) a bit of a puzzle in a way," Jean-Claude Trichet, chairman of the G10 central bankers' group of top industrial and developing nations, said after their regular meeting on the world economy.
The march to historic lows and the tight yield spreads between government and corporate debt could be explained by low inflation expectations, high demand by insurance and pension funds and low bond issuance by companies that have repaired their balance sheets and boosted profits, G10 central bankers found.
"All this could be interpreted as perhaps an underpricing of risk," said Trichet, who also heads the European Central Bank. "That was an element that we certainly had to keep in mind, that certainly again called for vigilance," he added.
Last month US Federal Reserve Chairman Alan Greenspan called the low yields at a time when the Fed is raising short term interest rates "a conundrum".
This bout of high-level warnings show that top central bankers fear a messy fallout if bond markets get overpriced and were to correct too quickly, market analysts said.
"This is a pretty strong message," said Joachim Fels, European economist at Morgan Stanley in London, who often has warned of asset-price inflation. "They are genuinely concerned that you would have a setback in the economic growth path if this bubble, if indeed it is a bubble, were to burst."
Prices in European debt markets, however, rallied on Monday, pushing down yields as they focused on a weak euro zone retail sales survey rather than the G10 warnings. The March bund future hit a two-week high at 118.93, up 14 ticks on the day and then eased later to 118.87.
Usually medium-to-long term debt yields climb when an economic cycle matures, demand is strong, oil prices rise and the central bank is raising rates. Instead the yield on the US Treasury 10-year note has declined since the Fed began raising short term interest rates in June 2004.
A Bank for International Settlements study released before the G10 meeting noted that low bond yields are surprising given US rate tightening and strong global economic growth. An appropriate yield for longer-dated US Treasury debt would be around 5.5 percent, said the BIS in its quarterly report.
Instead, the 10-year US Treasury reached 3.98 percent in early February, and long yields remain below their level when the Fed began raising interest rates in late June, said the report from BIS, a forum for G10 central bankers.
The global economic outlook remains quite robust, Trichet said in delivering the assessment of top central bankers who meet six times a year mostly at the BIS in the Swiss city of Basel.
"We would observe this year reasonably steady growth," he said. The International Monetary Fund is forecasting that global growth will be above 4 percent in 2005, following roughly 5 percent in 2004, which was its best record in three decades.