Forget the ASX 200! Another market crashed this week

Despite the ASX 200's not so good week, another market is raising red flags for investors. Here's what that means.

| More on:
A stop sign with the word bonds in front of a crashing market

Image source: Getty Images

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

The S&P/ASX 200 Index (ASX: XJO) did not have a great week this week. From Monday to Friday, the ASX 200 went backwards by roughly 1.5%.

That was pretty much caused by more than a 2% loss on Friday alone as investors responded to a sharp sell-off on Wall Street on Thursday night (our time). The ASX 200 has now wiped out all of its year-to-date gains at these levels, and then some.

But another market had an even worse week than the Aussie share market. And it might have more of an impact on the world of investing that you may realise.

According to reporting in the Australian Financial Review (AFR) last week, the bond markets had "a bloodbath". The report called it "one of the worst bloodbaths long-duration bond lovers have endured since the great crash of 1994".

Now, if that sounds like boring gobbledygook to you, let me explain before you leave.

Bonds and ASX shares

Yes, bonds don't have the kind of heart-stopping drama that the share market gives us in spades. But it is still a very important market to watch if you own ASX shares.

The global bond market is actually orders of magnitude bigger than the global share market. That has been helped in recent years (and over the past year in particular) by the record amount of government deficits and money printing/quantitative easing (QE) programs that have proliferated in response to the coronavirus pandemic.

So what has triggered this 'bloodbath'? Well, the report states that it's a "massive jump in 10-year Australian interest rates, which have more than doubled since November [and] hammered the price of fixed-rate… bonds".

The government issues bonds to fund government spending. Think of a bond as essentially a loan to a government.

That loan comes with interest, of course. These bonds are sold on the 'bond market', which operates in a very similar manner to the share market. Buyers and sellers work together to determine the price of bonds. Well, that's what used to happen, anyway.

These days, the bond market is rife with government intervention. Our own Reserve Bank of Australia (RBA) has an official policy to keep government bond yields at around 0.1%. To do this, it buys bonds when the yield gets too high.

Earlier this month, the RBA announced another $100 billion in bond purchases, which means the RBA will be buying about $5 billion worth of government bonds every week until at least April.

This is supposed to help the economy by keeping other interest rates around the economy (like those on mortgages and business loans) very low.

So why are yields rising?

Despite the RBA efforts, the AFR report tells us that long-term interest rates have doubled since November. And that's because investors are starting to look ahead of the pandemic to possible inflation.

Over in the United States, Congress is currently debating whether to pass a mammoth near-US$2 trillion stimulus package. That equates to around 15% of the USA's annual gross domestic product (GDP), which could easily result in inflation if the US economy responds to the stimulus more enthusiastically than expected. That could, in turn, spill over into the Australian economy.

The AFR also asserts that Australia's better than average handling of the pandemic, together with our late-to-the-show embrace of QE, is also partly to blame for the rise in bond yields.

But how does this affect ASX share market investors?

Well, government bonds are considered a 'risk-free' asset. Since a government can't really go bankrupt, a bondholder is virtually guaranteed to get their money back when the bond expires.

But the price of the 10-year government bond, as a risk-free asset, is what's normally used to judge the valuation of risk-on assets. Like ASX shares.

Put simply, it's usually the case that when Australian government bond yields rise, the value of ASX shares fall. Generally speaking, of course.

So this rise in Australian government bond yields over the past few months or so could well be partly to blame for the ASX 200's rather lacklustre start to the year.

So, as boring as it may be for some, this is a market worth keeping an eye on over the next few weeks and months!

Motley Fool contributor Sebastian Bowen has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

More on Share Market News

a man in a business suite throws his arms open wide above his head and raises his face with his mouth open in celebration in front of a background of an illuminated board tracking stock market movements.
Broker Notes

Analysts say these ASX shares are top buys in June

Brokers are urging investors to buy these shares. Let's find out why.

Read more »

Ten happy friends leaping in the air outdoors.
Share Gainers

Here are the top 10 ASX 200 shares today

Investors finished the trading week on a high note this Friday.

Read more »

A man in trendy clothing sits on a bench in a shopping mall looking at his phone with interest and a surprised look on his face.
Broker Notes

Brokers name 3 ASX shares to buy today

Here's why brokers are feeling bullish about these three shares this week.

Read more »

A male investor wearing a blue shirt looks off to the side with a miffed look on his face as the share price declines.
Share Fallers

Why Brainchip, Findi, Lottery Corp, and REA shares are falling today

These shares are ending the week in the red. But why?

Read more »

Happy teen friends jumping in front of a wall.
Share Gainers

4 ASX 200 shares leading the charge higher this week

Investors have been piling into these four ASX 200 shares this week. But why?

Read more »

Woman and man calculating a dividend yield.
REITs

What price target does Macquarie have on Goodman Group shares?

Goodman Group posted an interesting set of numbers in Q3. Here's Macquarie's take.

Read more »

A happy investor sits at his desk in front of his laptop and does the mexican wave with his arms to celebrate the returns from his ASX dividend shares
Share Gainers

Why Catapult, Champion Iron, Healthco, and Meeka Metals shares are pushing higher today

These shares are ending the week on a high. But why?

Read more »

Miner looking at a tablet.
Broker Notes

Why Macquarie expects this ASX 200 copper stock to surge 36% in a year

Macquarie forecasts some hefty gains ahead for the ASX 200 copper miner. But why?

Read more »