German Bond Yields, Interest Rates & Brexit: Steve Misener’s Market Outlook
Midas Letter Capital Markets Advisor Steve Misener, CFA breaks down the events shaping global markets this week. Misener discusses why German 10-year bond yields have dropped below zero and what that means for investors. He explains the merits of holding particular currencies in the current climate. Misener highlights catalysts that might be indicative of a broader market slowdown such as the price of oil. He addresses recent speculation that the Fed might cut interest rates. Misener explains how Brexit will impact markets and notes that Northern Ireland is playing a pivotal role in keeping Theresa May’s government afloat.
James West: Hey, Steve Misener joins me now, certified financial analyst extraordinaire. Steve, welcome back.
Steve Misener: Thanks, James. Pleasure to be here.
James West: Steve, I think we’ll delve right into one of your areas of expertise: German bond yields went negative. Now there’s over $10 trillion in debt that yields negatively. what does this portend for the greater economy, and what other currencies might soon follow?
Steve Misener: Well, the 10 trillion, I believe, is an aggregate of global currencies, because the Swiss has been negative for quite a while. I mean, the Swiss is one of the most prudently managed currencies in the world, and just for the viewers so they understand what negative means, it means that give them $100, you buy T-bills for $100, and you get back less than $100 in three or six or nine months, which is an incredible perspective, but it just shows the security associated with that particular currency, or the hardness of that currency, versus other currencies which tend to inflate.
James West: Right. So I mean, this is the thing: what kind of individual, or what kind of institution, says, ‘Here, I’ll give you $10 and I’m fine with you giving me back $9.80’?
Steve Misener: Well, they view that the currency is going to be the security, versus maybe a decline in other currencies. And that’s really, it isn’t just the interest rate, it’s holding that particular currency versus other currencies. And remember, all currency investments are all relative, even if we treat gold as a currency, as some people do. But it’s, Do I want to hold US dollars, do I want to hold Japanese yen, do I want to hold Euros? And it’s always a relative thing, and where you’re going to be. And people that hold short term investments, even large institutions holding that aggregate of $10 trillion, they’re about parking cash or sitting on the sidelines, because they don’t want to hold other things at that moment.
So it does kind of boggle the mind that someone would be agreeable to take less back, even a small haircut, after a few months, but that’s because they believe that that currency, and the market is saying, that that currency is the strongest versus other currencies.
James West: Okay.
Steve Misener: And even interestingly, the Australian bond, which has always had high yields for decades, the Australian market always had high yields – the 10 year government bond in Australia hit an all-time low at about 1.75 percent, and that is an incredible story, and reflects the global aggregate support of the bond market in general.
James West: Sure. Does this in any way equate or translate to a situation where it’s better to deploy capital and get a guaranteed loss, knowing that the loss is finite and predictable, than it is of taking the risk of deploying the same amount of capital into economic growth? An investment in an industry, in a commodity, in a sector, because taking a loss is of far greater certainty than getting any sort of a return from a higher-risk investment, in the general historic context of what an investment is?
Steve Misener: That’s a sound analogy, or sound kind of situation that you played out, and it’s really about relatively short term. If you put out money for three years or five years, you are going to start getting those positive yields, even if they’re rather skinny. So this is a relatively short-term situation, although –
James West: This is only short term money that’s getting the discount?
Steve Misener: Yeah, because the yield curve typically has this kind of upward trajectory. You commit to debt securities in almost any currency over long periods of time, you’re assuming greater risk, because of the unknown down the road over multi years. So you typically on the market, typically in a normal yield curve trajectory, you get some positive yield. It’s just very unusual when the short end dips negative.
Now it is in some models and some history that negative short-term returns, you know, can be problematic, because they’re forecasting much weaker economic growth, and that’s where the economists are really trying to tighten their numbers. There’s several Fed governors speaking this week, and people will be watching closely to see what their comments are.
James West: Sure. So we saw gold catch a bit of a bid today.
Steve Misener: Yes.
James West: Oil is still in the shitter, as they say in the UK. And the S&P is looking awfully shaky and volatile at these, again, all-time highs. So do all of these signals – you know, a major G7 currency going negative in the short term, gold catching a bid, oil prices still in the crapper – does all that sort of portend a general broad economic direction that sort of inclines more towards high-risk, negative outlook as opposed to a lower-risk positive outlook?
Like some analysts are saying that, Oh no, we’ve got another seven years of this bull market?
Steve Misener: Well, seven years would be very optimistic, because it’s been a long, long bull market of really 10 years to date. It was really March of ’09 was the double bottom, after the ’08 meltdown, if you will, so it’s really been 10 years this month that the US markets and global stock markets have been on a rise.
But gold, with its rally, remember, gold is by many treated as a currency as much as anything else, whereas oil is a consumable good. So the detachment of oil being weak could reflect a possible global slow-down of economic growth, whereas gold really is less influenced by economic growth and more by a store of value and as a relative currency to other currencies out there.
And as we said the last time I was on a few weeks back, that China turned the corner in October and November, first time in several years that they became big net buyers of gold. So people are watching that as possible backing for their currency down the road.
James West: You bet. Okay, so where would you be deploying capital now?
Steve Misener: Well, I mean, I think that staying a little bit powder-dry in cash is okay. I think that there are, we’ve obviously seen good moves in some of the interest censors, but there still are some good values in the Canadian dividend sectors, and I think that probably the US is not going into recession. I think it may be overdone, so there’s probably still some areas of good, sound economic growth that’s been over-emphasized right now. I mean, the labour market is still very strong.
It’s interesting to note that the Fed was so bearish about raising rates, and so concerned about overheating in the economy with the big 4.2 percent GDP growth in Q2 last year, but that really was an anomaly. It was going to slow down.
So here we have the Fed being aggressive in December, and in April, or in fact March, three months later, now they’re talking about rate cuts, possibly. It’s crazy how that turn has happened, because they have access to more economic information than anyone on the planet about the US and global economy.
James West: Yeah, well, that’s confounding. How does Brexit figure in to all this? Does anybody care, does it matter?
Steve Misener: It’s still wide unknown, and markets are jittery about that, certainly. This hard Brexit or no Brexit, or what’s going to happen in the middle. And any time that a major country’s government is considered a little bit, I would say, unstable, only because we don’t know the future of the Prime Minister May there, at the moment – that creates uncertainty, and people like to back away from that.
So I’d say that the unresolved nature of Brexit is probably the more difficult thing in the short term, rather than it going one way or another, being bullish or bearish. Because I don’t think that the people I’ve spoken to, based in London, they don’t believe that banking is going to move to Frankfurt or other locations. It’s going to stay in London, regardless of whether Brexit, or whatever type of Brexit, occurs. It’s simply a global centre of banking, and I don’t think that’s going to change.
James West: What about the issue of the Irish border? I mean, economically, not such a huge contributing factor to the entire European equation. But for me, I look at the political uncertainty that sort of accrues to that question, and I wonder if a lack of a, you know, a Brexit deal, and certainty as to how that border is going to be treated, could re-ignite some of the conflicts of The Troubles?
Steve Misener: I don’t believe it would. I mean, I’m not an expert in the field, although I was both in Ireland Republic and Northern Ireland in June, six, eight, nine months ago.
James West: Partying with Van Morrison, if I recall correctly. [laughter]
Steve Misener: Indeed. But the – I don’t think it would generate those kinds of issues, but certainly from an economics perspective, and more critically is that the Northern Irish Parliamentarians who are in the British Parliament have been supporting May’s conservative Tory government, and maintaining that support so that the Tories can stay in power; that’s the key. So they have a great deal of bargaining power because of that swing support in propping up the British government.
But it is a complicated issue, because as of last June, you just drive right through the border, and probably still today. And putting some kind of hard border, where Northern Ireland is not part of the EU, to some degree under Brexit, and the Irish Republic is, that’s certainly problematic for the people of Ireland, and therefore plays into the stability of the Tory government.
But I don’t think, I don’t think it would be cause for the kinds of conflicts in the past.
James West: Interesting. Well, I guess we’ll have to see how all this plays out. Steve, we’re going to leave it there for now. Thanks very much for joining us again.
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