Week End Blog – Drowning in Negativity

Yields are lower. Again! The book on ‘bond madness’ got yet another chapter this week. The German 10-year government bond yield fell below 3 basis points, not surprisingly another record low.

And if I look at the German yield curve, it only seems a matter of time before Europe’s most important bond yield turns negative. As you can tell for yourself the German yield curve actually ‘spikes’ around ten years maturity. Not that any other part of the yield curve should be considered as ‘normal’, of course.

On average, rates are already negative in Germany. The Umlaufrendite, which measures the average yield on all outstanding debt, did go below zero for the first time history. Sheer madness!

But it’s all relative, right? More madness is found in Switzerland where yields on bonds with a maturity up to 22 years(!) ‘earn’ you a negative yield. Sure yields can go lower, sure the steepness of the curve is of importance, but for plain-vanilla long-term investors these bonds offer nothing but risk.

Who is to blame? Central banks, of course. Draghi already spent EUR 1 trillion so far and has got little to no #inflation in return.

Obviously, there is always the discussion on how much worse things would be if central banks did not act at all. Surely,  Draghi will point to recent GDP growth numbers when questioned on the efficacy of QE . Eurozone GDP grew more than expected in Q1. And with YoY growth of 1.7% it rejoins the UK and US. Eureka!

But, from an inflation point of view the results are less straightforward. I can’t judge if inflation numbers would be even worse without QE, but I can say that deflation is mostly a European thing. For ages, the ECB has not come anywhere near its inflation.

In Japan we see the same pattern occur. The Bank of Japan spent double the amount of the ECB so far, also without getting any inflation in return. In Japan, helicopter money is now a serious option, something that is less difficult for me to comprehend than pushing already negative yields even lower.

Central banks do offer some kind of inflation, though. The last couple of years will make history as (one of) the best period(s) for government bonds. Just take a look a the incredible graph below. Since the start of this year the Japanese 40-year government bond got you 38% return, while the Nikkei lost 12%. Yes, that is a return differential of 50%(!) in less than six months.

What is Yellen to do with all this? Surely, she would like to return to some kind of ‘normal’ monetary policy, but the others are making it so hard. And markets know this.  Hence, after last week’s bad job report, a June rate hike is off the table according to investors.

My final chart is on BREXIT. Equity markets haven’t made a big deal of a possible BREXIT, yet. However, the probabilities don’t seem to differ too much from those of the flip of a coin. Yes, the betting agencies, which theoretically should come up with realistic odds, overwhelmingly point to ‘BREMAIN.’ However, there is more to this, because the size and number of bets influences the odds. A very interesting, but also worrying, chart on these bettings odds is shown below. In recent weeks the percentage of bets on BREXIT has risen dramatically. Assuming that every single bet is done by one, separate, individual would mean a massive BREXIT vote. I’m not saying that this is the case, but blindly following the betting odds is just too simplistic.

[tweet https://twitter.com/jsblokland/status/740092060334706688 of width=’500′

Thanks for reading the Week End Blog. Enjoy your weekend!


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