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Credit Insights

Historically Low Interest Rates in Europe Prompt Demand for Higher-Yielding U.S. Dollar-Denominated Debt

Corporations finding cheaper financing in Europe.

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Demand for U.S. corporate bonds continued to be very strong last week; however, the amount of new issuance brought to market was enough to satiate demand. Credit spreads were largely unchanged in the investment-grade space and only slightly stronger in the high-yield market. Over the course of the week in the investment-grade market, the average spread of the Morningstar Corporate Bond Index was unchanged at +133. High-yield bonds performed slightly better, as the average spread of the Bank of America Merrill Lynch High Yield Master Index tightened 10 basis points to +443. The demand for U.S. dollar-denominated fixed-income securities was not limited to the corporate bond market. Investors bid up prices on Treasury bonds as well, sending the yield on both the 10-year and 30-year Treasury bonds down 13 basis points to end the week at 2.00% and 2.60%, respectively.

Across the eurozone, sovereign yields bumped along their lowest ever yields. The yield on the 10-year German bund ended the week at 0.33%, the French 10-year OAT at 0.60%, Italian 10-year at 1.33%, and Spanish 10-year at 1.26%. In Asia, the 10-year Japanese government bonds declined to 0.34%. Among shorter-dated bonds, many developed markets bonds are trading at a negative yield. For example, Germany sold 5-year bunds at a yield of negative 0.08%. While the German 5-year has traded in the secondary market at a negative yield before, this was the first time it was sold at the time of offering at a negative yield. This means that investors are locking in a guaranteed loss if they hold the bonds until maturity. Fundamentally, the only instances in which this would make economic sense is if an investor expects a significant deflationary event that would decimate other asset values across the world. Otherwise, the only way for an investor to make money on these bonds is to sell them to another investor at a price that locks in an even greater loss. In this case, speculators are expecting that they will be able to sell the bonds to the European Central Bank, which has said it would consider buying debt trading at a negative yield.

David Sekera does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.

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