The Everything Bubble

Who on Earth Is Buying Negative Yielding Bonds?

Once you know it's not as crazy as it sounds

Sep 24 · 3 min read
Photo by Andrea Cau on Unsplash

It’s a strange monetary world out there as we approach eleven years of economic expansion and with such a long age one would expect some kind of phenomenon at the end-of-cycle phase. Guess what? You’d be right: this year, negative-yielding bonds (NYBs) reached a total market cap of $17 trillion dollars.

In 2019, bonds are in such high demand that yields have turned negative worldwide, therefore, you must pay to keep your money in assets that are — deemed to be — safe. You’re handing your over hard-earned money to the government and also paying them. No longer can you simply earn interest by parking your cash at the bank, in fact, it gets worse for Japanese citizens who are charged just for depositing their money because of negative interest rate policy (NIRP).

To the average investor, it seems like a ludicrous idea to even consider an investment with a negative yield and they’re right to be curious: eventually, you are guaranteed to lose money, which begs the question: who on earth is buying them?! The answer? Banks, pensions funds, and governments around the world; financial institutions who are either required to hold them by law or would go broke without them. NYBs are a necessity because, simply, there’s no safer place to store and transfer substantial amounts of money in the current environment.

In countries like Switzerland, this is evident by 6-month bonds yielding a whopping -0.94%. Imagine being mandated by law as a pension fund to own an asset that’s a guaranteed loss! Obviously not ideal, however, here’s where things get interesting. There’s a very good reason why you would want to own NYBs: bond prices skyrocket in periods of financial repression, therefore, negative yields become irrelevant.

What’s less obvious is the true intention of firms buying bonds: they think the principal will rise enough to offset negative coupons. For example, if that same Swiss pension fund decides they will only hold bonds for a five-month period, who cares about the -0.94% negative yield when the price of the bond rises by 5% and you can sell before paying it.

The fact that German bond prices are rallying — despite the entire yield curve turning negative — proves that the yield itself is considered obsolete by market participants. This is greater fool theory in a nutshell because investors presume they can offload them to someone willing to pay a higher price.

However, this behavior isn’t a consensus as the talking heads seem to think investors are buying U.S bonds specifically to receive the highest coupon. In reality, the bond market sees a world in deflationary mode whilst on the brink of economic collapse.

The chart above created by Deutsche Bank’s research team shows how the ISM Business Confidence Survey vs 10Y bond chart has a high correlation even in periods where the “flight to U.S safety” narrative isn’t in play. It also reveals that bonds are no longer being considered as a long term, stable investment, instead, they are a safe haven bubble blown up by one of the most uncertain environments in modern monetary history.

In a decade or two, it’s not a crazy idea to think we’ll reach double-digit negativity: Imagine being made by the government to own a German 10 Year Bond with a coupon of -10%. If NYBs become a long term trend and the entire market stays fixated on bond prices, it makes you wonder how low yields can really go? Based on the current transition from a business cycle to a liquidity cycle powered by central bank stimulus, it could be much lower than people think.


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