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February 22, 2016 at 08:53 AM
(Bloomberg) — It’s not as if Christoph Kind relishes putting his clients’ money into bonds that often pay nothing in interest and can all but guarantee losses.
But Kind is doing just that — and he’s hardly the only one.
More and more, debt investors are being confronted by a new reality where deepening concern over the global economy has made sub-zero interest rates the norm. In Germany, Kind’s home market, surging haven demand has pushed average yields on about 1 trillion euros ($1.1 trillion) of debt below zero for the longest stretch on record. Bond prices are so high in Japan almost two-thirds of its government debt have negative yields.
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And at a time when teetering financial markets have made security a paramount concern, investors are discovering there are few good options left. Even in the U.S., long the destination of choice in times of duress, Treasuries are in such demand that when their cash flows are converted into euros, yields are even worse than the scant returns on German bunds.
“It’s tough at these levels, but at the moment there seem to be few alternatives,” said Kind, the head of asset allocation at Frankfurt Trust, which oversees about $20 billion. “This is quite a tricky situation. The risk of a selloff in safe-haven assets has increased” as yields get lower and lower.
Despite those reservations, Kind has bought negative-yielding bonds in recent weeks. It’s a response to the extraordinary steps by the likes of the European Central Bank and Bank of Japan to push interest rates below zero and buy more government bonds as they try to jump-start their economies.
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But that’s not all. The willingness of debt investors to effectively pay governments to borrow also reflects increasing skepticism of central bank policies — and concern those very measures may ultimately do more harm than good to the global economy. Even after central banks around the world spent trillions since the financial crisis on quantitative easing and dropped policy rates below zero for about two dozen countries, the market’s outlook for inflation globally is closing in on post-financial crisis lows.
While the trade-off of losing a little money for the security of owning government debt when things seem so gloomy might be a small one for conservative investors, there are considerable risks in the meantime.
Last year, fears of deflation and the ECB’s introduction of QE pushed the average yield on euro-area debt to a record-low 0.475 percent and sent those on German bunds toward zero. Then, in the months that followed, faint glimmers of optimism over the outlook the region’s economy helped spark a sudden and violent reversal that caused yields to soar.
By the middle of June, yields on longer-term German debt jumped more than a percentage point and left investors with an unprecedented 13 percent loss in the quarter, index data compiled by Bank of America Corp. show.
Nevertheless, as worries over the economic health of China and the United States — the world’s two main engines of growth — continue to linger, volatility increases throughout financial markets and investors question the wisdom of negative rates, government bonds with ultra-low yields remain in demand.
This month, yields on Germany’s two-year notes dropped to a record-low minus 0.557 percent. They were at minus 0.54 percent at 7:50 a.m. in London on Monday. The average yield on 1.06 trillion euros of German debt is currently minus 0.05 percent and has been negative every day for two weeks, according to Bank of America. In Japan, yields on about $4.5 trillion of government debt are less than zero, index data compiled by Bloomberg show.
Last week, the Organization for Economic Cooperation and Development cut its 2016 global growth forecast to 3 percent from 3.3 percent in November, saying “financial stability risks are substantial.”
A majority of economists in a Bloomberg survey also say negative rates will be in place at the ECB until at least the first quarter of 2018 and at the BOJ until at least the end of that year.
“Risk-free now has a cost” and clients are learning that they should accept it, said Mauro Vittorangeli, a senior fixed-income money manager at Allianz Global Investors, which oversees about $505 billion.
