Column: Demographics and the bond market conundrum

September 3, 2014

By James Saft

(Reuters) – As we get older we become curiously susceptible to arguments that it is not us who have changed, but the world.

So it may be with the so-called bond market conundrum, in which the effect of our aging demographics gets very little attention despite likely having considerable impact.

As it was in 2005 when a puzzled Alan Greenspan made the idea of the conundrum popular, the issue today is a divergence between longer-dated Treasuries, which are falling in yield, and monetary policy, which is tightening. If the Federal Reserve had control over the bond market – itself a questionable idea – this should not be happening.

But it is. Despite a steady tapering of bond purchases by the Fed and growing expectations of an actual rise in rates next year, 10-year Treasury yields have tumbled by more than a half a percentage point so far this year, holding on Wednesday at just 2.41 percent. Even more strikingly, five-year yields have not followed suit, a divergence the likes of which, according to the Financial Times, we’ve not seen since the 1960s.

A host of explanations has been offered, from the idea that bonds are tracking expected European Central Bank loosening, to the possibility that this reflects better confidence that the United States will be able to keep its budget under control.


Also possible, of course, is that bond yields are falling because we really are facing a secular stagnation, an extended period of low growth and stubbornly low inflation.

A look at our grizzled faces in the mirror might possibly help to clarify things.

“Demography can account for the dramatic decline in both inflation and bond yields in the U.S.,” writes economist Ed Yardini of Yardini Research. 

“Indeed, there has been a very close fit among the Age Wave (i.e., the percentage of the labor force that is 16-34 years old), the inflation trend, and the 10-year U.S. Treasury yield.”

As people age, much changes. In earlier stages of life people tend both to accumulate assets, saving for their eventual use during retirement, and do lots of stimulative spending, as they outfit a house, raise and educate a family and generally consume more in myriad ways. 


All of this reverses as people age, which tends to dampen economic growth, and also may drive the demand for bonds.

The United States now has fewer people in the 16-34-year-old demographic than it has in more than 50 years, with just a bit less than 36 percent in this cohort. That compares with more than 50 percent in the mid-1970s.

While none of this perfectly explains what’s been happening in the bond market this year, what an aging population does do is drive a bid for bonds. Some of the difference in 5- and 10- year bond yield moves this year may even be attributable to demographic-driven liability hedging, for which longer-dated bonds are used.

In any event, one clear impact of an aging population is that older people and those who manage money on their behalf will want more bonds, both to reduce risk as they near retirement and, increasingly, as part of attempts to hedge against living too long.

This is true of both individual savers and institutions. Mutual fund data from 2010 shows that 401(k) account holders in their 60s were nearly three times more likely to hold less than 40 percent in equities as were those in their 20s.

All of this is consistent with, at least, two interlocking ideas: that demographics are contributing to low growth, low inflation and low bond yields; and that demographics are driving demand for bonds, which is making yields lower than they otherwise would be.

To be sure, people age at a reliable rate of one day per day, so demographic changes will be slower to be felt than what we’ve observed in the markets.

Still, as the marginal buyer sets the price in a market, it may be that more investors are buying into the secular stagnation argument, perhaps buttressed by demographic trends.

A momentum trade, if you like, based on the idea that the economy won’t have much momentum.

One other cautionary note – it is hard to reconcile this fully with the very strong performance of equities. The test will be how bonds and stocks react in the next year, as rates either rise or as we all realize the reasons that won’t soon be possible.

(At the time of publication James Saft did not own any direct investments in securities mentioned in this article. He may be an owner indirectly as an investor in a fund. You can email him at and find more columns at

(Editing by Dan Grebler)

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