Yielding Nothing

What’s up with negative interest rates?

Source: Bloomberg

The last auction Germany held for their 2-year bunds produced an obligation sold are par with no coupon. The bonds promptly went to a premium, resulting in a negative yield. Around the world, yields for 2-year Government bonds are negative in Germany, Holland, France, and Switzerland. In Switzerland it’s especially bad: you have to pay a 4 ¼% premium to get a 2-year note with a 2% coupon.

From a long-term investor’s perspective, this doesn’t make any sense. Why buy something that is guaranteed to lose money? No, this is a currency play. Investors paying these premiums are betting—or hedging bets—on a breakup of the Euro.

The clearest indicator of this is Switzerland. That country isn’t part of the Euro, but is closely tied to the Euro-zone’s fortunes. In August 2011 their central bank pegged the Franc / Euro cross rate. In 2012 there was broad speculation that they wouldn’t maintain their peg, and their 2-year notes went to negative 0.42%. In the end, the Swiss were able to defend the Franc’s level, and speculators lost out. But Swiss 2-year yields are still negative.

Source: Bloomberg

Negative nominal yields indicate that something isn’t right. At present, they point to speculative pressure on the Euro. A lot of folks still expect the common currency to break up, and they’re willing to accept negative short-term yields from Europe’s strongest economies as a hedge on that position.

So US investors shouldn’t complain too loudly about ultra-low interest rates over here. As Europe shows, it can always get worse.


Douglas R. Tengdin, CFA
Chief Investment Officer
Phone: 603-224-1350
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