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Noble Apex eNewsletter Issue 824- How can make profit from negative yielding bonds?

2019-09-06 10:35
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2 September 2019, Issue 824

Global Market Commentary


  • United States: Tension between China and US on trade issues have cooled down. Trump said that Sino-US trade negotiations will begin soon and reiterated that China hopes to reach an agreement with US on trade issues. For the entire week, the Dow rose by 3.02% to 26,403.28. The S&P 500 index rose by 2.79% to 2,926.46. The Nasdaq rose by 2.72% to 7,962.88.
  • Europe: China and the United States will have trade talks in September. Besides, the Italian political situation has improved, driving up the European stock markets. Over the week, the UK’s FTSE 100 index rose by 1.58%, the German DAX index rose by 2.82%, and the French CAC40 index rose by 2.88%. The STOXX 600 index rose by 2.19% to 379.48 points.
  • Asia: Tension between China and US on trade issues have cooled down. The two sides will meet and have talks on trade issues in September. For the whole week, the Nikkei 225 index fell by 0.03% to 20,704.37 points. The MSCI Asia Pacific Index rose by 0.49% to 153.13.


  • United States: Tension between China and US on trade issues have cooled down. However, the two-year and 10-year US government bonds’ yields are inverted, causing the market worried on the economic prospects. For the whole week, the US 10-year bond yield fell by 4 basis points to 1.496%.
  • Eurozone: Market worried the UK will leave the EU without an agreement. The EU’s Brexit negotiator, Barnier, said that the EU will not change the Brexit agreement with the UK, and he is not optimistic about avoiding No-deal Brexit. For the whole week, the German 10-year bond yield fell by 3 basis points to -0.702%.


  • Oil Price: Tension between China and US on trade issues have cooled down. The two sides will meet and have talks on trade issues in September, pushing up the demand for crude oil. Over the week, New York oil futures rose by 1.72% to close at $55.10 a barrel.


  • United States: US President Trump said that the euro is “crazyly falling” against the US dollar, giving European countries an advantage in export and manufacturing. At the same time, Trump criticized the Fed for doing nothing and raising the dollar to a high level. For the whole week, the Dollar Index rose by 1.307% to 98.916.
  • China: Under the Sino-US trade war, the renminbi fell significantly and fell below “7” . For the whole week, the yuan fell by 0.939% against the US dollar at 7.149.


Economic-related News

  • United States: The United States imposed a 15% tariff on about $110 billion worth Chinese imports, which came into force on September 1. The Chinese counter-measures also took effect on the same day, including a 5% tariff on US crude oil and a 10% tariff on agricultural products such as pork.
  • United States: US economic data showed that the University of Michigan’s Consumer Confidence Index fell by the largest extent within the last six years in August. Moreover, the personal consumption expenditure accelerated faster than expected in July, and inflation indicators remained sluggish.
  • United States: US Treasury Secretary Mnuchin claimed that the Trump administration considers the issuance of ultra-long-term government bonds very seriously. If there is any action, it will prefer to coordinate with the Fed and global allies.
  • Eurozone: The Queen of England approved the request of Prime Minister Johnson of adjourning the parliament from mid-September to mid-October, which may trigger a constitutional crisis that the opposition may launch a no confidence vote on Johnson next week.
  • Eurozone: European Central Bank official Knot claimed that there is no need to implement a new round of quantitative easing measures now, and there is still room for further decline in deposit interest rates below zero.
  • Eurozone: The United Kingdom and the European Union began to increase the frequency of talks in September in an effort to break the deadlock before the Brexit day on October 31. According to a spokesperson of the British Labor Party, the parliament hopes to vote to pass legislation to prevent No-deal Brexit.
  • Japan: According to data from the Bank of Japan, the growth rate of the Japan’s Corporate Service Price Index slowed from 0.7% yoy to 0.5% yoy in July, which is lower than the market expectations of 0.6%.
  • Japan: Nikkei/Markit data showed that the final value of Japan’s Manufacturing Purchasing Managers’ Index (PMI) fell unexpectedly in August, falling from 49.4 in July to 49.3.
  • Philippine: Nikkei/Markit data shows that after seasonal adjustments, the Philippines’ Nikkei Manufacturing Purchasing Managers’ Index (PMI) ended its growth of the last three consecutive months, dropping from 52.1 in July to 51.9 in August.
China Market Commentary
Economic-related news
• The State Council Financial Committee’s Saturday meeting pointed out that it is necessary to continue to implement a sound monetary policy, maintaining a reasonable liquidity and a growth of social financing scale.
• The People’s Bank of China demanded that the newly issued loans can base on LPR as soon as possible, breaking the implicit lower limit of the loan interest rate. The meeting also required financial institutions to further increase financial support for the economy.

How can make profit from negative yielding bonds?

Two weeks ago, the world’s first 30-Year zero coupon bond at negative yield flops in Germany with a total value of 824 million euros, causing the whole of Germany’s yield curve to below zero. Effectively, the government of Germany is now being paid to borrow out as it only needs to repay 795 million euros when it expires in 30 years, which means that investors of the 30-year German Bund would actually get back less money than what had been invested if they held through to the maturity. Sounds weird?

Today, negative interest rate bonds are increasingly common and approximately $17 trillion of bonds are now paying negative interest rate amid global economic concerns and speculation of central banks easing across the globe. That represents more than 30% of a total global bond market value of $55 trillion. The trend is actually creeping into Emerging European market, such as Poland, Hungary and the Czech Republic, with their outstanding euro bonds are all trading at negative yields. Now the question is, who in the world is buying all these negative yielding bonds?

Owning negative-yielding bond could make sense if an investor expects future capital gain (e.g., negative interest rate to dip further) or is financing the positions at even more negative rates, which make it possible to earn positive carry. Indeed, with European Central Bank largely expected to restart their asset purchasing program this or next year, negative-yielding European bonds buyers are speculating the bond price will go up further as a result.

Besides, Negative yields don’t necessary mean negative return for some investors too. For example, U.S. investors are buying European or Japanese debt and hedged back into USD as it offers a yield pick-up opportunity. According to interest rate parity, a currency with a lower interest trades at a higher exchange rate in the future. Therefore, U.S. investors of the negative-yielding bond (e.g., two-year German Bund yielding -0.9%) will enter into a forward or swap as the one-year implied forward exchange rate for the EUR vs. USD currently is about 3 percent higher than the spot exchange rate. With 3% return from forward currency hedging together with the -0.9% negative yield from the German Bund, U.S. investors effectively earns a 2.1% hedged yield from this kind of carry trade strategy. This is a typical example of using a derivative contract to take a long-term low yielding asset into a high yield. For instance, a lot of US bond ETFs or currency hedged indexed bond funds are buying negative-yielding bonds and earn a decent return on a currency hedged basis.

Another way investor can make money from the negative yield is to take advantage of the yield curve’s slope. The yield curve represents the gap between shorter-term yields and longer-term, with a steep curve indicating a large difference. As such, very negative short-term yields (e.g., -0.7%) result in positive carry for a 20-year bond (e.g., -0.25% yield) internal European investors as the bond rolls down and the price of the long-term bond should generally rise as it moves closer to maturity. However, this is only a short-term strategy as yield curve’s slope could change drastically.

All in all, the rise of negative-yielding bonds could eventually turn into a bubble for the bond market, in particular today’s easy monetary policy has pushed a lot of money flow into the passive indexed bond funds and ETFs, which many of them are mandated to buy the bonds according to the weight in the index, but regardless of price or future return. Investing in negative-yielding bonds is like playing the musical chair and no one really know when the music will stop. The sudden collapse in interest rate differentials, flattening of yield curve’s slope or upward shocks to forward exchange rate may create substantial loss in negative yield bonds. Therefore, it is always important for bond funds investors to monitor what their funds really invested in and not to have too much exposure on negatively yielding bonds.


今天是沉重的一天。30 年前,德先生的幽靈在神州上空飄過,絕塵而去,留下血染的風采,歷史給我們重重一擊。夢碎了,代價不菲,如今疤痕未退……



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