Stock of QE-Eligible Bunds Keeps Shrinking as Rally Gathers Pace

  • $801 billion of German bonds yield less than ECB deposit rate
  • Ten-year bund yields could breach -0.3 percent: Cantor

A seventh straight week of gains in German bunds has pushed yields on securities of all maturities to unprecedented lows -- leaving about $801 billion of debt out of the reach of the European Central Bank.

The surge in sovereign debt since Britain’s vote to exit the European Union last month has pushed yields on about 70 percent of the securities in the $1.1-trillion Bloomberg Germany Sovereign Bond Index below the ECB’s minus 0.4 percent deposit rate, making them ineligible for the institution’s quantitative-easing program. For the euro area as a whole, the total rises to almost $2 trillion.

The move has been exacerbated by banking and political concerns in the euro region, sparking a demand for safety that has driven the yield on German 10-year bunds to a record-low, and those on securities due in up to 15 years below zero. The rally has boosted concern that the ECB’s Public Sector Purchase Programme could run into scarcity problems well before its completion date of March 2017, prompting speculation policy makers may tweak their plan.

“The huge move in bund yields in the last two weeks is going to cause problems for the ECB in terms of PSPP purchases,” said Owen Callan, a Dublin-based fixed-income strategist at Cantor Fitzgerald LP. “There doesn’t seem to be any expectation, given the Brexit and Italian bank concerns in the background, that yields are going to start rising anytime soon.”

Longest Run

The German 10-year bund yield fell six basis points, or 0.06 percentage point, this week, to minus 0.19 percent as of the 5 p.m. London time close on Friday. That’s the seventh week of declines, the longest run since January 2015. The price of the 0.5 percent security due February 2026 was at 106.675 percent of face value.

The yield dropped to a record of minus 0.205 percent on July 6.

ECB QE began in March 2015 and was initially due to run until September 2016, before being extended by six months earlier this year. Apart from the deposit-rate floor, there are limits on how much the central banks may own of each bond, and each nation’s overall debt, while purchases must also be carried out in line with the ECB’s capital key, which is roughly in proportion to the relative size of each euro-area economy. That means Germany must back up the biggest proportion of purchases, even as the stock of eligible securities gets ever smaller.

QE’s Challenges

Central-bank officials acknowledged the concerns that its asset-purchase program could face implementation challenges over time, an account of the June 2 Governing Council meeting published on Thursday showed. Officials next set policy on July 21.

German bunds have returned 6.9 percent since the start of the year, according to Bloomberg World Bond Indexes. That’s beaten a 5.2 percent gain in Spanish bonds, and 3.6 percent return in Italy’s -- two nations likely to be among the biggest beneficiaries of any move to loosen QE rules.

“At the moment there is no good reason for investors to sell these bonds,” Callan said, adding that the growing risks in the market could drive 10-year bund yields below minus 0.3 percent. “That would certainly wake the ECB up in terms of the problems they are facing.”

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