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It's the $3 Trillion Bond Trade Investors Should Fear!

The size of US corporate bond market has ballooned by $3.7 trillion during the past decade.  In the past, there are 23 types of investors in the bond markets.  But according to Citigroup's strategist Stephen Antczak, majority of the $3.7 trillion growth is now concentrated in the hands of 3 types of buyers:  mutual funds, foreign investors and insurance companies!

The chart below illustrates the top 3 vs all others bond holder's growth.

The top three investor groups hold almost 2/3 of total corporate debt.  Mutual funds grew the fastest, more than doubling their share to 22% in 10 years.  Overseas foreign investors now hold almost a quarter of the market.  Hedge funds, government pension funds and securities brokers are among 20 other groups that hold 37%.

For mutual funds, they would be forced to sell when investors redeem cash; for foreign investors, they might be prompted to exit if the dollar weakened at the same time bond yield rose!  In other words, when the Fed raises interest rates, the combination could lead to more selling than the market can absorb!

To make the situation worst, there are lesser market makers after the financial crisis as tougher banking regulations made it more expensive for them to hold risky assets.  To be precise, dealer inventories of corporate bonds plunged more than 76% in the afters after the financial crisis.  The key market makers now are JPMorgan, Deutsche Bank AG, and Goldman Sachs Group Inc.  Market makers are those that can step in to buy when investors sell.

Evaporating liquidity,  in the bond market, in this case with lesser market makers due to tougher banking regulations, will exaggerate a selloff when the central banks raises its benchmark interest rate.


Bloomberg, Nabila Ahmed and Sonali Basak, 2015-06-10, "The $3 Trillion Bond Trade Citigroup Says Investors Should Fear"