Something happened at the end of March that we all need to pay attention to.
By this point in the aftermath of the global financial crisis, we’re immune to wonder at the existence of government bonds with negative yields. Why would anyone in their right minds pay a government to take their money? we used to ask. We don’t anymore. It’s now business as usual and market “experts” offer all kinds of reasons why anyone would buy a bond with a negative yield. Most of them come down to fear that you could lose even more if you simply held onto cash. In other words, negative yields are a vote that you prefer a government bond to cash.
How strong is this “preference,” if that’s what it is? The sum of government bonds in the world with negative yields moved back above $10 trillion at the end of March.
But this isn’t what drew my attention. What caught my eye was the existence of corporate bonds with negative yields and the growth of this segment of the bond market. Corporate bonds with negative yields go back to the efforts in 2016 of the European Central Bank to jump start inflation and growth in that economic bloc. A program had the bank buying up billions in corporate bonds–the bank was worried that continued buying of government bonds alone would lead the bank to own the market for government bonds (something like that has happened in Japan where the Bank of Japan owns so many Japanese government bonds that it is in effect the market.) The thought, though, was that negative rates on corporate bonds were a temporary phenomenon and they would come to an end as the European Central Bank wound down its buying of corporate debt.
But the corporate bond with the negative yield hasn’t passed out of existence–and in fact this strange segment of the corporate market seems to be doing just fine. In March, for example, France’s luxury goods giant LVMH Moet Hennessy Louis Vuitton ((LVMUY) and drug maker Sanofi (SNY) sold bonds with negative yields. And the managers of these negative yield offers had to beat off buyers with a handbag–the Louis Vuitton sale had 6 times as many orders as the 300 million euro offer could accommodate. French oil company Total (TOT) may have gone one better by selling a perpetual bond, one that never matures and never needs to be paid off with a yield of just 1.75%. Remember the Italian banking crisis and the precarious state of the Italian economy? Apparently some bond buyers don’t. UniCredit recently saw offers on 5 billion euros of perpetual bonds.What interests me is what’s up? What might negative yields on corporate bonds and perpetual corporate bonds mean?
If we follow out the fear explanation for $10 trillion in government bonds with negative yields (that is, that some in the financial markets would rather pay governments to hold their money than keep it in cash because they don’t trust cash, presumably, not to lose money), then we should start to ask if the willingness to buy a corporate bond with a negative yield says something about confidence in central banks.
I’d argue that it’s not unreasonable to question how confident we should be about global central banks in the weeks after the Turkish central bank blew through about one-third of its foreign reserves–roughly $10 billion in three weeks–in an apparent effort to assure that President Recep Erdogan’s party and its allies would triumph in local elections. The President won last year’s election by demonizing foreign investors and governments for pushing up Turkish interest rates and promising to take more control of monetary policy. After last year’s election he appointed his son-in-law Berat Albayrak, as finance minister.Or about how confident we should be about the Federal Reserve in the weeks after President Donald Trump has floated the idea of appointing two otherwise unqualified political allies to the U.S. central bank.
Any erosion of confidence in global central banks wouldn’t happen overnight, but it would be a huge deal since it is confidence in those banks that undergirds current asset values.