Over the past nine months, we have seen an increasing number of countries with sovereign bonds trading at negative yields. Countries within this group have also seen these negative yields spread to longer tenors. An example of this is Japan, where even the 5-year touched zero on January 20, 2015. Japanese rates have since recovered somewhat since their December 2014/January 2015 lows, and the vast majority of negative yielding bonds are currently found in Europe. In late January 2015, however, $1.8 trillion of Japanese bonds were trading with negative yields. This Japanese phenomenon was responsible for the jump in global bonds trading with negative yields from mid-December 2014 to late January 2015 (see this week's chart).
Is this global negative rate phenomenon weighing on U.S. 30-year Treasury yields? When including the Japanese jump in volume, the correlation coefficient between global bonds trading with negative yields and the 30-year U.S. Treasury yield is a strong -0.82. If the temporary jump due to Japan is removed, this correlation coefficient increases further to -0.91, which is very strong.
Will the volume of global bonds trading with negative yields continue to trend higher? Those in charge of negative rate policy probably had certain outcomes in mind when implementing those policies. One of the main outcomes intended by these policymakers would have been to force investors into riskier asset classes. If policymakers' intentions were realized in the markets, investors would expect a strong positive correlation between global negative rates and the DAX. However, the relationship between global negative rates and the U.S. 30-year Treasury is even stronger than that between global negative rates and the DAX over the same period, even in the face of increased U.S. investor purchases of European equities in January.
Some investors have demonstrated an unexpected resilience to policymakers' intentions by continuing to invest in bonds, even with negative yields. Buyers of bonds with negative yields include investors worried about deflation, currency speculators, those making a play on quantitative easing in Europe (who might expect negative rates to go even lower), the central banks themselves, indexed/passive funds, and banks trying to avoid negative deposit rates.
Key Takeaway: Investors don't have much experience navigating the waters of global negative yields. Trading on a correlated pair without much history can take conviction. However, if the increasing trend of global bonds trading with negative yields continues, the relationship seen in this week's chart may continue to pull 30-year U.S. Treasury yields lower.
The material provided here is for informational use only. The views expressed are those of the author, and do not necessarily reflect the views of Penn Mutual Asset Management.
This material is for informational use only. The views expressed are those of the author, and do not necessarily reflect the views of Penn Mutual Asset Management. This material is not intended to be relied upon as a forecast, research or investment advice, and it is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy.
Opinions and statements of financial market trends that are based on current market conditions constitute judgment of the author and are subject to change without notice. The information and opinions contained in this material are derived from sources deemed to be reliable but should not be assumed to be accurate or complete. Statements that reflect projections or expectations of future financial or economic performance of the markets may be considered forward-looking statements. Actual results may differ significantly. Any forecasts contained in this material are based on various estimates and assumptions, and there can be no assurance that such estimates or assumptions will prove accurate.
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High-Yield bonds are subject to greater fluctuations in value and risk of loss of income and principal. Investing in higher yielding, lower rated corporate bonds have a greater risk of price fluctuations and loss of principal and income than U.S. Treasury bonds and bills. Government securities offer a higher degree of safety and are guaranteed as to the timely payment of principal and interest if held to maturity.
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