Government yields below key rates

CFA Level II
#1

How do peeps,

Was wondering if anyone would be able to explain the following gifs to me as it feels like the tectonic plates of finance are shifting;

  1. EURO ZONE

The yield on Germany’s 10-year Bund fell below the ECB’s overnight deposit rate for the first time ever; https://fingfx.thomsonreuters.com/gfx/mkt/12/2983/2958/ezcurve.gif

  1. UNITED STATES

The 10-year Treasury yield falling below the upper bound of the Fed’s interest rate band for the first time in 11 years; https://fingfx.thomsonreuters.com/gfx/mkt/12/2985/2960/us.gif

  1. UNITED KINGDOM

The yield on the 10-year gilt falling below the Bank of England’s policy rate;

https://fingfx.thomsonreuters.com/gfx/mkt/12/2987/2962/UKcurve.gif

These have been sourced from a Reuters article called ‘The Incredible Disappearing Bond Yields’.

Appreciate any insight.

Best,

Terry

#2

In a nutshell, investors are expecting low to negative growth around the world & maybe recession, esp in the eurozone where the economy has been slowing for a while now. You should know the basics about monetary policy… when you expect the overnight cash rate to decline for the next X years, suddenly that government bond yielding %+ now looks attractive. Demand drives the price up and yield down. Thats when you see the yield curve flattening/inverting and also shifting downwards.

#3

Cheers for the response, even if it was from your high horse :wink: I am comfortable with monetary policy basics. I was wondering more about the significance of yields falling below policy/target rates. Do you think this shift makes it difficult for banks to be profitable going forward given how narrow spreads on rates are getting??

Cheers,

T

#4

The answer, generally, is yes. While borrowing and lending rates are both impacted by the prevailing reference rate, in general a lower interest rate environment is associated with a contraction in the net interest margin that banks are able to make (i.e. the difference between the lending and funding rates). In addition, the outlook for a bank’s net interest income growth will not be as rosy in a lower rate environment.

#5

Oh sh* sorry it wasn’t supposed to sound that way, i was just too lazy to type out the full blurb expecting you to already know it.

But yes, studyguy’s right about bank margins getting squeezed.

Feels like quantitative easing for the next decade imo. When things fall so much below policy rates, there’s only so much that monetary policies can do before relying on other stimulus. Tbh with the US govt in much debt, they can’t afford to sit in a high rate environment anyway. The whole trade war has eroded so much business/investment confidence, will not have helped.

#6

Thanks very much for both responses. Good to know and really interesting moves this week in the rates space as well as the FX now with trade tensions.