The increasing size of negative yielding government bonds across the globe could spark a new era in financial markets.
That’s the assessment from Nick Colas, a veteran market strategist and co-founder of DataTrek Research.
But first, Colas points to previous historical paradigm shifts — of similar significance to the negative yielding era — that have changed the landscape of the investing world:
October 1973: oil prices surge amid an OPEC embargo targeting the West, leading to years of inflation.
August 1979: Former Federal Reserve Chair Paul Volcker’s subsequent interest rate hikes to fight inflation.
October 1987: stock market crash leads to assurances from the Fed to provide liquidity to markets. Colas calls this the “birth of the Fed put.”
Lost decade of 2000-2010: Stocks barely moved after big gains in the prior decade.
The fifth addition to this list, according to Colas, is the negative or ultra-low interest rate landscape.
There is roughly $17 trillion worth of negative yielding sovereign bonds across the globe. That means investors pay money to own the bond vs. the other way around. Falling bond yields mean bond prices are rising, a signal of increased demand for bonds. Bonds generally are in higher demand during uncertain economic times, since they are perceived as less risky than stocks. Lately, investors have been worried about slowing global economic growth, partly driven by trade tensions between the U.S. and China.
Yields on the 10-year German bund stand at -0.66%, while the U.S. 10-year Treasury yield (^TNX) stands at 1.483%, slightly above its record low in July 2016 of roughly 1.37%.
Like the aforementioned historical examples, Colas is trying to figure out what negative/low rates means for the markets over the next several years.
“[This] could be as large a mispricing as the dot com/housing bubble,” Colas wrote. “Let’s assume for a moment that the U.S. and China do come to a trade agreement in the next 6-12 months and the global economy does not fall into recession. Will German 10-years still sport a negative yield? Doubtful. Back in October 2018 they paid 0.50%, for example.”
Colas is confident the U.S. 10-year yield will not be trading at its current level in 12 months from now.
“A year from now we’ll look back on September 2019 and wonder how markets could have either been so fretful or so complacent about 2020’s economic conditions,” he wrote. “Our optimistic nature means we believe the former sentiment will prevail, but we understand the bearish argument as well.”
Scott Gamm is a reporter at Yahoo Finance. Follow him on Twitter @ScottGamm.
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