Germany’s Incomplete Economic Recovery Supports the Bond Bull Market

Germany’s national economic statistical repository provides an interesting set of graphs that correlate with the collapsing interest rate structure in that country.  Two-year bunds now yield a negative 0.08% per year.  The 10-year bund yields 1.27%, down from over 2.1% only one year ago.   No wonder that with the U.S. interest rate structure so much higher, speculators have been piling into T-bond futures.  

Here is a link to Statistisches Bundesamt.  Click on “Current” and then click on the “Production”, “New Orders”, and “Turnover” tabs.  You can then click on the graphs to enlarge them.

I was surprised to find that as in the U.S. production in the post-2009 recovery has not reached prior peaks.  It would have appeared from the headlines that Germany was soaring economically.  (The data does also show a bit of a construction boom– perhaps related to the low interest-rate environment?)  And of course, these charts are now pointing downward.

In addition to the perceived flight to safety into German bonds, similar supply-demand issues as occurred in Japan post-bubble era, and have been documented to have been occurring in the U.S., may be occurring in Germany.  This refers to the so-called “yotai gap”, an excess of demand to lend money to banks in government-guaranteed accounts over legitimate lending opportunities (LINKLINK).  So on the margin, where prices are set, savers have been competing to see who will accept the lowest rate in return for preservation of nominal capital.  

On July 14 of this year, I said:

Savers are between the proverbial rock and hard place.  The prudent look in vain for easy solutions to this dilemma.  It turns out that there are none.  (LINK)

The title of the post expresses the viewpoint and fear that may be driving rates in the government bonds of the economically dominant countries to these microscopic and even negative yields, JPM’s Whale of a Problem and Futures Market Scandals May Help Lead to Negative Rates on Bank Deposits.

Regardless of the transitory issues such as trading losses at J.P. Morgan Chase, the fact remains that national government guarantees of one’s savings mean not just a lot, but everything in a pinch. After all, so long as the currency system is accepted by the public, even that historically-durable store of wealth, gold, must generally be converted to currency (tangible or electronic) in order to purchase life’s necessities.

People interested in those posts may also wish to review Why ZIRP Became Inevitable and Why It May Be With Us a Long Time (LINK), where I said in March of this year:

It is my contention that the U.S. has a “yotai gap” that has led to essentially zero interest rates on savings deposits throughout most of the U.S. banking system.  The Fed, in this context, is reactive as well as proactive in its implementation of a “zero interest rate policy” aka ZIRP.  The Federal Reserve is, after all, typically a cautious institution.  Just as it took many years of fighting the inflationary, rising rate trends that began in the early 1960s before the Fed joined with market forces to push interest rates to a level that finally made Treasurys more attractive than gold (“Volckerism”), it took the threat of a national run on the banking system following the collapse of Lehman in late 2008 to push the Fed to abandon all thoughts of the tightening bias that it had as late as mid-2008, many months into the recession that was not yet Great.

The United States dollar is the ultimate currency.  Thus as a holder of long-term Treasury bonds, it is reassuring from a price/yield perspective to see that while U.S. troops continue to be encamped in Germany, the flight to safety into that country’s markets have brought its interest rate structure to a notably lower level than that of the U.S.  Thus it appears reasonable to think that if there are further stresses on the global financial system, there is room for additional demand for safety of principal with some positive yield could continue to pressure the record-low Treasury interest rate structure even lower.

While one is in a bull market, one simply never knows when it will peak.  When it is over, and prices have dropped dramatically, it is easy to look back and say, “Lord, what fools these mortals were”.  Speculating on the fourth online pet supplies company is a much more obvious bubble behavior than simply owning a near-cash equivalent, namely the bonds issued by one’s own government.  Thus, and with Japan’s example and even that of the U.S. from the 1930′s into the 1950′s as examples of persistence of ultra-low interest rates, it is unclear in this specific case that there is a near-term end to what is widely called a “bond bubble”.

Futures markets positioning shows that hedge funds and institutions have been positioning themselves long Treasurys, just as they did this spring when they powered Treasury prices much higher (yields lower).  This does raise the risk profile, but it is also true that it takes bulls to make (perpetuate) a bull market.  

So long as the U.S. economy fails to accelerate and savers willing give up almost one-tenth of one percent of their capital yearly for two years by purchasing German government debt, it is difficult for yours truly to call the ultimate top of the U.S. Treasury bull market, even though it is in its fourth decade of a bull market.  






2 comments to Germany’s Incomplete Economic Recovery Supports the Bond Bull Market

  • JB McMunn

    Hedge funds are moving into fixed income.

    I’ve had a good run with zeros and DBLTX but it’s getting to be a crowded trade.

    With everybody on one side of the boat in fixed income WTF is holding up stock prices other than low yields? There seems to be a lot less money chasing these assets.

    I’d be happier with this if either yields were higher making bonds a better buy, or if stocks were appropriately lower due to decreased demand. Instead they are both richly valued.

    Right now I’m sitting on a lot of cash with PM to offset the currency debasement. There’s a smattering of bonds and stocks (I like MLPs in my taxable account, and the tax penalties for selling make me a buy-and-hold guy for those).

    Sometimes you just have to be patient and wait for the fat pitch.

  • You are correct, JB. The hedge funds are pushing this leg of the bond bull market higher, as I said, and anyone who puts a large proportion of investable funds into leveraged bonds here is taking quite a risk. Thus I have been discussing matters much less bullishly than I did last year. Nonetheless, hedge funds are smart money; their positioning is not extreme; recent polling of Big Money shows that Treasurys are hated; CNBC is not pumping Treasurys; there is no public speculation in bonds, etc. This is why I find it so interesting. It is the quietest major bull market I have ever heard of.