Over the past two weeks I reviewed the main movers across the Maltese equity market during 2019, showing the wide discrepancies between the equities that performed strongest and those that registered double-digit declines. In today’s article, I will be reviewing the 2019 performance of Malta’s sovereign bond market.
The RF MGS Index measures the performance of the Malta Government Stock market. Following two consecutive years of declines, the RF MGS Index registered a gain of 4.3 per cent in 2019 – the second-best annual performance since 2014. Very coincidentally, the 4.3 per cent gain of the RF MGS Index is almost identical to that of the MSE Equity Price Index during 2019 (+4.4 per cent).
It was an eventful year for the MGS market as prices rallied above their previous record levels of late 2016 before suffering a sharp downturn in the last quarter of the year. In fact, the RF MGS Index had climbed by 8.2 per cent until late August 2019 but then shed 3.5 per cent by the end of the year, which is quite remarkable considering that bonds are generally viewed as being less volatile than equities.
Some other noteworthy observations to make are that in early August 2019, yields in Malta dropped below the one per cent level across the entire spectrum of Malta Government bonds and, for the first time, an offer of new MGS in the primary market was made with negative yields to maturity.
The strong upward movement in MGS prices during the last few weeks of 2018 caused by a flight to safety as international equity markets tumbled continued at the start of 2019 also as the Federal Reserve announced that it would be halting its programme of interest rate hikes. Moreover, although the quantitative easing programme of the European Central Bank came to an end in December 2018, yields continued to edge lower as a result of heightened global political uncertainties (including the trade spat between the US and China) and weak economic data across the eurozone. The 10-year German bund yield dropped back into negative territory during the second half of March 2019 compared to a high in the previous year of +0.81 per cent in early February 2018, clearly indicating the extent of volatility across the sovereign bond markets in only one year. The RF MGS Index performed positively in each of the first two quarters of 2019, leading to a 4.3 per cent gain in the first six months of 2019.
The second half of the year proved to be more volatile. Sovereign bond prices across the eurozone, including Malta, staged a strong rally during most of the summer months as it had become increasingly evident from the disappointing economic data emerging and statements that were being made by key officials of the ECB that the central bank would have to introduce new stimulus measures.
Yields declined to fresh all-time lows in August and September with the 10-year German bund yield dropping to -0.74 per cent (compared to the previous record low of -0.20 per cent in July 2016) and the yield on the 30-year bund dropping to -0.31 per cent (the previous all-time low of +0.29 per cent had also been recorded in July 2016).
The movement in the eurozone bond markets was duly reflected in Malta as the RF MGS Index rallied by 3.2 per cent during the third quarter of the year. Yields across the entire spectrum of MGS dropped below the one per cent level for the first time ever on August 5, 2019. This was reflected in a significant upturn in MGS prices with the longest-dated MGS, the 2.4 per cent MGS 2041, rallying by an extraordinary 27.7 percentage points from 106.82 per cent at the end of 2018 to an all-time high of 134.56 per cent albeit recorded on October 4, 2019. The yield on the 10-year MGS dropped to a low of only 0.1 per cent on August 29, 2019, compared to a level of 2.4 per cent in mid-2014 before the start of the QE programme by the ECB in early 2015.
During the ECB monetary policy meeting that took place between September 11 and 12, which was president Mario Draghi’s final meeting before the end of his eight-year term on October 31, a decision was taken to introduce various stimulus measures in a fresh bid to boost the eurozone economy.
The deposit facility was reduced by a further 10 basis points to a new record low of -0.50 per cent (the first change since March 2016) and the QE programme was set in motion again at a monthly pace of €20 billion as from November 1, 2019. The ECB also stated that the purchases of bonds will “run for as long as necessary to reinforce the accommodative impact of policy rates”, implying that this second QE programme is essentially open-ended until such time that inflation expectations are “sufficiently close to, but below, two per cent”.
Such double-digit movements are not normal
Despite the wide-ranging measures announced by the ECB in mid-September 2019, eurozone yields began to edge higher from the all-time lows in previous weeks on some reassuring news on the trade negotiations between the US and China, a slight improvement in economic data in some economies and also as Brexit negotiations were becoming clearer.
Although the 10-year German bund yield rebounded sharply to around the -0.4 per cent level in mid-October compared to the low of -0.74 per cent in August, MGS prices continued to rally until early October with the 2.4 per cent MGS 2041 reaching a fresh all-time high of 134.56 per cent on October 4.
However, as there was increased optimism that the US and China were making progress on agreeing a trade deal and comments from the ECB indicated that it was unlikely for the eurozone to drop into a recession, the recovery in yields and decline in prices gathered momentum. In fact, the RF MGS Index performed negatively for nine consecutive weeks (the longest trend on record) between early October and the first week of December.
The Federal Reserve also provided a more positive view of the performance of the US economy and as the year came to a close, the negotiations between the US and China intensified, leading towards a ‘Phase 1’ deal.
The yield on the 10-year German bund ended the year at -0.19 per cent (compared to the low of -0.74 per cent) and the yield on the 30-year bund closed off the year at +0.35 per cent (compared to the low of -0.31 per cent). Likewise, in Malta, the RF MGS Index shed three per cent during the final quarter of the year with a sharp decline in some prices in a short period of time. The two longest-dated MGS – namely the 3% MGS 2040 and the 2.4% MGS 2041 – dropped by over six percentage points from their peak in a matter of approximately five weeks after staging an extraordinary double-digit upturn in previous months.
At the start of 2019, I had argued that the future direction of MGS prices was very uncertain given the numerous factors that impinge on international bond yields and subsequent price movements. I had also warned that sizeable movements can take place in a relatively short period of time even in the bond market. The volatility that characterised the MGS market during the second half of 2019 proves how difficult it is to predict future movements in the sovereign bond market. While in 2020 many international commentators expect eurozone yields to drop back to their record low levels seen in summer 2019, which would lead to a renewed upturn in MGS prices, this is very much dependent on the economic data emerging around the world, statements by key officials of the major central banks and global political developments.
The recent unexpected stand-off between the US and Iran is another example of how such events can lead to unpredictable movements across sovereign bond markets including Malta.
The US presidential elections due on November 2, 2020, could also lead to significant changes in prices and yields as some may vividly recall the November 2016 movements upon the election of Donald Trump. At the time, yields had risen and MGS prices declined rapidly and it was only in 2019 that a good number of MGS prices surpassed the record levels seen just before the US presidential elections. This year should, therefore, be another one of volatility for the MGS market.
Although the remarkable gains in the longer-dated MGS was very positive news for investors holding these securities in their investment portfolios, such double-digit movements are not normal in the bond market and investors should not expect such performances to be repeated in the months ahead.
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