Trillion-Dollar Punishment Makes European Buyers Pay for Safety

Mario Draghi, left, President of the European Central Bank and vice president Vitor Constancio, right, leave the first press conference following the monthly ECB board meeting in the new ECB headquarters on Dec. 4, 2014 in Frankfurt am Main, Germany.

Photographer: Thomas Lohnes/Getty Images

Investors across the globe are facing a trillion-dollar dilemma: either pay up for the safety of lending to nations like Germany and Switzerland, or buy riskier debt at a time of faltering economic growth.

The question plagues asset managers who are waking up each morning to find that the yields on more and more of their holdings have turned negative -- meaning they’re effectively paying governments to borrow. The volume of such debt has swelled to 1.4 trillion euros ($1.62 trillion) from 500 billion euros in October, Bank of America Corp. data show.

Many bond investors choose to sell notes as soon as their yields turn negative, opting to buy riskier securities instead. That’s exactly what the European Central Bank wants as it considers asset purchases that investors are anticipating will be announced this week.

“The ramifications of this are huge,” said Barnaby Martin, a credit strategist at Bank of America in London. “None of us really knows how this will play out. We’ve never seen such a backdrop of negative-yielding assets.”

Yields on 10-year Swiss government notes have plunged to negative 0.09 percent, while five-year German bonds are yielding negative 0.04 percent. Across Europe’s $7.1 trillion market for government debt, yields are paying a record low 0.86 percent, less than one-third of the average during the past decade, Bank of America Merrill Lynch index data show.

Negative Byproduct

Negative yields are a byproduct of the ECB’s biggest financial experiment ever. President Mario Draghi said in an interview published this month in Die Zeit that the central bank is ready to start buying euro-region government bonds, spurring speculation it’s gearing up for an announcement at the Jan. 22 meeting that it will purchase up to 500 billion euros of the securities.

The potential consequence?

“It will push people into positive-yielding assets,” unless they’re so pessimistic about growth in the region that they’d rather keep their cash in government bonds and lose a little money, Martin said. That may ultimately leave central banks as the main holders of the negative-yielding government debt, he said.

This may cause sudden jumps in value for riskier securities. Take euro-denominated junk bonds, which have gained 0.4 percent this month even as similarly ranked dollar-denominated notes have lost value.

Unibail-Rodamco SE, a highly rated French real estate company, has seen its share price surge more than 12 percent so far this year. Telenor ASA, a Norwegian telecommunications company, has gained about 10 percent in January.

It’s unclear whether the ECB can create a big enough program to shock the region back into expansion. One thing is certain: it’s already shocking the system of debt buyers, who are finding their safe hiding spots less and less appealing.

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