In this series, we bust the jargon and explain a popular investing term or theme. Here it’s bond vigilantes.
Who are these people?
Bond vigilantes sound like characters from a Western, bringing law and order to a frontier town. Obviously this is not the case, but these prominent investors do see themselves in a heroic light, as the guardians of fiscal and monetary prudence.
They are ready to instil spending discipline on politicians, making their presence felt not only in their own country, but in bond markets worldwide. Bonds are fixed-interest investments issued by governments and corporates to raise money.
What do these investors actually do?
The bond vigilantes make it clear that they are prepared to sell, or stop buying government bonds if they consider that an administration’s policies are taking the nation’s debt to a level that endangers the economy – and the value of the bond viligantes’ investments. They are active worldwide.
But the interventions of the US bond vigilantes attract the most attention. America’s bond ‘Treasuries’ market has grown to $27 trillion. This debt mountain that has implications not only for the US, but the rest of the world.
Discipline: Bond vigilantes see themselves in a heroic light, as the guardians of fiscal and monetary prudence
The interest payable on these borrowings is the third largest area of spending in the US (after social security and Medicare).
What’s the impact of their actions?
If the vigilantes stage a ‘buyers strike’ or a mass sell-off, this drives down the prices of bonds. When the price of any type of bond falls, its yield moves in an inverse direction. Higher bond yields mean that the cost of other loans, such as mortgages, goes up.
In the UK, fixed-rate mortgages are priced in relation to the yields on gilts – the name given to government bonds. When these yields surged after the Truss/Kwarteng mini-Budget, this took the cost of the average two-year fixed rate deal from 3.6 per cent to 5.9 per cent.
Why are we reading this now?
The bond vigilantes – who are said to be newly emboldened – are expected to be on the rise this year because elections are taking place in the US and the UK, as well as India and Mexico. Politicians’ spending plans are set to be closely scrutinised.
Who thought up this term?
Ed Yardeni, a US economist, coined the phrase in 1983, writing that ‘if the fiscal and monetary authorities won’t regulate the economy, the bond investors will’.
When the bond vigilantes re-emerged last October, amid concern about the $2 trillion US fiscal deficit, Yardeni who heads his own research group, criticised the ‘spending binge under Bidenomics’.
Is this threat real?
Inflation in the US is falling and interest rates seem to be headed downwards, which should cut the nation’s interest bill. Should President Biden still be apprehensive about the bond vigilantes? Probably.
What is the most famous bond vigilante feat?
The arena was Sweden, not the US. In 1994 Bjorn Wolrath, general director of the insurance group Skandia Group, pledged not to buy ‘a single Swedish bond as long as the Swedish government doesn’t have a trustworthy policy aimed at reducing its deficit’. The yields on 10-year Swedish bonds surged from 7 per cent to 11 per cent, forcing the government to severely reduce spending.
