It might have seemed like a fabulous speculation some years ago. However, today the entire German government bond market yields less than zero and so the question becomes a little less absurd.
Since the recent US rate cut and the Eurozone’s renewed commitment to easy money, there has been a huge downward shift in yields in most developed government bond markets. This has led to renewed talk of the absurdity of negative yielding bonds. It also leads us to question whether the policy of ultra-low interest rates is achieving any desirable policy goals.
We tend to think of the UK government bond market as having some of the characteristics of Eurozone bonds and some of the features of US bonds. The UK is like Europe, not just because of its proximity, but due to its relatively ageing population and therefore, relatively low growth rate. However, like the US economy, it has a vibrant consumer sector with a thirst for debt financing.
With the US economy apparently slowing and the Fed having embarked on a rate cutting cycle, pressure is on UK yields from above. The European economy, especially Germany, is also in a very weak place and further pressure on Eurozone rates seems to be inevitable. This provides a drag lower for UK yields from beneath. Importantly, we also need to consider the outlook for the UK economy with Brexit uncertainty weighing heavily. In conclusion, it is not altogether implausible that the UK will at some point, in the not too distant future, also be following the zero interest rate strategies seen already in Europe and Japan. UK ten-year government bonds already yield less than half a percent and these could, in a number of circumstances, be heading down to zero.
Another driver of lower yields globally is an excess supply of savings as both western and newly wealthy Chinese workers enter their peak savings periods, while the number of new entrants to the global workforce declines. Compounding this is the fact that many of the new and growing industries tend to be less capital intensive than the heavy industries of the past. This leaves a growing savings pool to crowd into a shrinking pool of attractive opportunities. Of course, this ageing feature also has a disinflationary impact on economies also further driving down yields worldwide.
In conclusion, we think the pressure downwards on yields remains strong for now and only a pick-up in global economic activity is likely to reverse that trend in the near term. We maintain a heavy position in long dated bonds for this reason and remain alert to any economic data that might reverse it.
The value of stock market investments will fluctuate and investors may not get back the original amount invested.
Changes in the interest rate will affect the value of, and the interest earned from bonds held within the Portfolio. When interest rates rise, the capital value of the Portfolio is likely to fall and vice versa.
Forecasts are not reliable indicators of future returns.
For Investment Professionals only. Not for onward distribution. No other persons should rely on any information contained within this document.
Source for information: Miton as at 07/08/2019 unless otherwise stated.
The views expressed are those of the fund manager at the time of writing and are subject to change without notice. They are not necessarily the views of Miton and do not constitute investment advice.
Miton has used all reasonable efforts to ensure the accuracy of the information contained in the communication, however some information and statistical data has been obtained from external sources. Whilst Miton believes these sources to be reliable, Miton cannot guarantee the reliability, completeness or accuracy of the content or provide a warrantee.
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