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The September 12 ECB meeting was one of the most anticipated meetings of a central bank this year. & Nbsp; It was not only the last meeting of "Super Mario" Draghi to show how much he was ready to provide monetary stimulus, but it was also an event where the potential for unintended consequences and collateral damage was Student. I believe that five important events have occurred at this meeting and I would like to explore what they mean collectively for the markets.
First, the ECB lowered the deposit rate, as expected, from -0.40% to -0.50%, which technically would be a "relaxation". & Nbsp; Secondly, they reintroduced an essentially unlimited and indefinite quantitative easing program, promising to buy 20 billion euros worth of bonds each month from a short time. Thirdly, they have put in place a filing prioritization system; deposits of less than a multiple of six reserve requirements would generate a 0% return, while any excess would generate a negative interest rate; banks will have to pay money on their reserves exceeding the threshold. & nbsp; Fourth, before and during the meeting, it was reported that there was strong opposition to the aggressive bond purchase plan and that the next president of the ECB will have to corrode the dissidents (Source: Bloomberg News). Finally, at the press conference, Mr Draghi essentially acknowledged that the central bank ran out of ammunition and advocated for fiscal stimulus from countries with a positive budget balance, such as Germany. (The source of all the information in this paragraph is the ECB press conference).
The impact of a slight reduction in rates was essentially overtaken by other factors. After a brief and brief fall in yields, the yield curve in Germany has flattened and yields have risen by almost 0.12% over the two-year period (source: Bloomberg). & nbsp; Relief? & Nbsp; It looked like a tightening. & Nbsp; As a result of these events, global bond yields began to rise sharply with the reversal of the self-fulfilling dynamic of recent weeks. & Nbsp; Should investors in bonds still sell, even as the ECB has dropped its monetary bazooka?
To understand why yields have risen even as the deposit rate has been reduced, we need to look at what market participants are likely to do in response to this new stage of "ad hoc" decision-making. & Nbsp; If you are the CEO of a bank with excess deposits, it would probably make sense to find a eurozone bank that does not have deposits above the 6x threshold and transfer the money there at a rate of interest of 0%. In other words, the introduction of the level in a very heterogeneous European banking system potentially creates an arbitrage opportunity for banks and probably creates the conditions for a rise in yields in the short term. When the deposit rate is -0.50% and the two-year return is -0.75%, it makes sense for investors to consider selling these bonds and switching to bonds with a yield greater than -0.50%, or even deposit them with banks with reserves. 0% yield. & nbsp; Clearly, the main beneficiaries of the "facility" were peripheral countries such as Italy, where long-term yields fell significantly as a result of the ECB's announcement. A conspiracy theorist would speculate whether it was perhaps a departure gift from Draghi?
Second, low long-term yields will likely generate more emissions from countries struggling to grow their economies. & Nbsp; As it is becoming increasingly clear that the negative return money experience has failed to achieve the stated economic objectives (inflation), it may be timely for countries to "go straight"; that is, issuing long-term bonds for financial support and expansion. & nbsp; Given that the carry-on operations of German banks have been one of the victims of this negative environment, it would not be surprising that tax issues serve to accentuate the yield curve and bring back carry operations for purposes profitability for European banks. . & nbsp; This fall of money due to "helicopters" is likely to happen soon, even if the calendar is, of course, unpredictable.
The sharp drop in yields in recent weeks has forced buyers to buy bonds to cover their liabilities. & Nbsp; Pension funds, index funds, hedge traders, trend trackers, risk parity managers have all been drawn into the recovery of bonds for perfectly rational risk management reasons. & Nbsp; What we are seeing now is the opposite, because the same reason will argue in favor of the elimination of long-term positions. & Nbsp; Call it "convex sale" or whatever you want, but the fact is that the zero-to-thirty coupon bond on which I wrote (which had been issued with a negative return) is now trading at a more reasonable positive return. , having dropped more than five percent in terms of price in a few days. & nbsp; And this Austrian link of 100 years? It has dropped about 15% from the peak reached a few days ago (source: Bloomberg).
As I have said in the past, when returns are negative, strange things tend to happen because the real financial mechanism of the markets does not work as expected. If economic models suggest that there is no fundamental difference between positive and negative returns, the fact is that bonds are insurance contracts that promise some loss of return. & Nbsp; Since they are also the fundamental discounting factor for all asset classes, a sharp rise in yields means a potentially large price decline for all assets. & Nbsp; What might be the most surprising – and painful – result of this easing, which was really a tightening in my opinion, is a sharp drop in world stock prices. & Nbsp; At the end of the day, if growth is weak and returns rise at the same time, why would we want to invest in equities? & Nbsp; A correlated sale of bonds and equities will be devastating for pension balance sheets.
Regardless of the outcome in global asset markets, one thing seems fairly clear: the uncertainty about the effectiveness of monetary policy has increased significantly. If the market begins to feel the desperation of central banks and a penchant for politics "invent it as you go along," the sanction of bond observers will be quick and could very well filter into other classes of investors. 39; assets. & Nbsp; If credibility and credibility are not restored quickly, we will probably look back and wonder why we thought central banks were "the only game in town" and why we were so confident in their ability to generate real money. economic results. & Nbsp; As always, asset prices will probably adjust well before economic data records them.
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The September 12 ECB meeting was one of the most anticipated meetings of a central bank this year. It was not only the last meeting of "Super Mario" Draghi to show how much he was ready to provide monetary stimulus, but it was also an event where the potential for unintended consequences and collateral damage was Student. I believe that five important events have occurred at this meeting and I would like to explore what they mean collectively for the markets.
First, the ECB lowered the deposit rate to -0.50%, as expected, from -0.40%, which would technically be a "relaxation". Secondly, they reintroduced an essentially unlimited and indefinite quantitative easing program, promising to buy 20 billion euros worth of bonds each month from a short time. Thirdly, they have put in place a filing prioritization system; deposits of less than a multiple of six reserve requirements would generate a 0% return, while any excess would generate a negative interest rate; that is, banks should pay money on their reserves exceeding the threshold. Fourth, before and during the meeting, it was reported that there was strong opposition to the aggressive bond purchase plan and that the next president of the ECB will have to corrode the dissidents (Source: Bloomberg News). Finally, at the press conference, Mr Draghi essentially acknowledged that the central bank ran out of ammunition and advocated for fiscal stimulus from countries with a positive budget balance, such as Germany. (The source of all the information in this paragraph is the ECB press conference).
The impact of a slight reduction in rates was essentially overtaken by other factors. After a brief and brief fall in yields, the yield curve in Germany has flattened and yields have risen by almost 0.12% over the two-year period (source: Bloomberg). Easing? It looked like a tightening. Subsequently, global bond yields began to rise sharply with the reversal of the self-fulfilling dynamics of recent weeks. Should investors in bonds still sell, even as the ECB has dropped its monetary bazooka?
To understand why yields have increased even as the deposit rate has been reduced, we need to examine what market participants are likely to do in response to this new stage of ad hoc decision-making. If you are the CEO of a bank with excess deposits, it would probably make sense to find a eurozone bank that does not have deposits above the 6x threshold and transfer the money there at a rate of interest of 0%. In other words, the introduction of the level in a very heterogeneous European banking system potentially creates an arbitrage opportunity for banks and probably creates the conditions for a rise in yields in the short term. When the deposit rate is -0.50% and the two-year return is -0.75%, it makes sense for investors to consider selling these bonds and switching to bonds with a yield greater than -0.50%, or even deposit them with banks with reserves. 0% yield. Clearly, the main beneficiaries of the "facility" were peripheral countries such as Italy, where long-term yields fell significantly as a result of the ECB's announcement. A conspiracy theorist would speculate whether it was perhaps a departure gift from Draghi?
Second, low long-term yields are likely to generate more emissions from countries that are struggling to grow their economies. As it is becoming increasingly clear that the negative return money experience has failed to achieve the stated economic objectives (inflation), it may be timely for countries to "go straight"; that is, issuing long-term bonds for budget support and expansion. Given that the carry-on operations of German banks have been one of the victims of this negative environment, it would not be surprising that tax issues serve to accentuate the yield curve and bring back carry operations for purposes profitability for European banks. . This fall of money due to "helicopters" is likely to happen soon, even if the calendar is, of course, unpredictable.
The sharp fall in yields in recent weeks had forced buyers to buy bonds to cover their debts. Pension funds, index funds, hedge traders, trend trackers, risk parity managers have all been drawn into the recovery of bonds for perfectly rational risk management reasons. What we are seeing now is the opposite, as the same reason will argue for the elimination of long-duration positions. Call it "convex sale" or whatever you want, but the fact is that the zero-to-thirty coupon bond on which I wrote (which had been issued with a negative return) is now trading at a more reasonable positive return. , having dropped more than five percent in terms of price in a few days. And this Austrian link of 100 years? It has dropped about 15% from the peak reached a few days ago (source: Bloomberg).
As I have said in the past, when returns are negative, strange things tend to happen because the real financial mechanism of the markets does not work as expected. While economic models might suggest that there is no fundamental difference between positive and negative returns, the fact is that the returns are negative, which means that the bonds are fonts. insurance that promise some loss of performance. Since they are also the fundamental discounting factor for all asset classes, a sharp rise in yields means a potentially sharp decline in the price of all assets. What could be the most surprising – and painful – result of this easing, which was really a tightening in my opinion, is a sharp drop in world stock prices. In the end, if there is little growth and returns rise at the same time, why would you want to invest in equities? A correlated sale of bonds and equities will be devastating for pension balance sheets.
Regardless of the outcome in global asset markets, one thing seems fairly clear: the uncertainty about the effectiveness of monetary policy has increased significantly. If the market begins to feel the desperation of central banks and a penchant for the policy of "catching up as and when", the sanction of observers of the bonds will be fast and could very well filter in other classes. ; assets. If credibility and credibility are not restored quickly, we will probably ask ourselves why we thought central banks were the "only possible game in the city" and why we had so much confidence in their ability to generate real economic results. . As always, asset prices will probably adjust well before economic data records them.