Among the most breathtaking moves attributable to central bank intervention is the plunge in bond yields, especially in the eurozone. The Spanish and Italian 10-year government bond yields are both down to 1.15% from peaks of 7.61% and 6.61%, respectively, on July 24, 2012 -- just before European Central Bank President Mario Draghi’s whatever-it-takes pledge two days later. Astonishingly, the German yield is down to 0.25%, which is below the Japanese yield of 0.37%.
Throughout Europe and Japan, the short and intermediate portions of yield curves are actually negative. That means fiscal deficits can be funded with bonds that are worth less when they mature. It’s an extraordinary development. Mr. Draghi’s latest hat trick was to say the following at his March 5 news conference: “We observe that almost half of the euro bonds are outside the euro area and we also observe that the average weighted price of bonds in the two- to 30-year maturity is well above par. It’s exactly 124%. So how negative do we go? Until the deposit rate.” That rate was lowered to -0.2% from -0.1% on Sept. 4, 2014.
In other words, the ECB as a buyer of bonds under its QE program won’t pay less than -0.2% for bonds! By saying so, Mr. Draghi in effect is pegging the entire yield curve to that subzero yield. The question has been raised about the necessity of QE in the eurozone given how low bond yields are today. The answer is Mr. Draghi wants to keep the euro down, and send it even lower. Of course, he would never admit that publicly since central bankers always deny charges of currency manipulation.
The obvious outlier is the U.S. Treasury yield curve. That’s because U.S. yields are torn between the gravitational pull of near zero (plus or minus) European and Japanese yields and the prospect of Fed rate hikes. If Fed officials signal that the strong dollar has become a major concern, that might lead to a more patient pace of normalization, then the melt-up in U.S. bond prices is likely to continue on a catch-up basis with comparable overseas securities.
Source: Ed Yardeni — Ed Yardeni is the president and chief investment strategist of Yardeni Research Inc., a provider of independent investment strategy and economics research for institutional investors.
