Reasons for the low and even negative bond yields

Reasons for the low and even negative bond yields

This paper focuses on EC3214 Financial Economics II. The Excel file ‘Yield on ten-year Tbills’ in Moodle contains US daily yields on 10-year Treasuries (in percent) for you to verify or to track the data over the period October 2014 to July 2010.

EC3214 Financial Economics II-The Excel file ‘Yield on ten-year

Instructions
The Excel file ‘Yield on ten-year Tbills’ in Moodle contains US daily yields on 10-year Treasuries (in percent) for you to verify or to track the data over the period October 2014 to July 2010. At the bottom of the brief summary, there are some questions that you will need to address in writing the essay.

Make sure that the essay is your own individual work and that you do not use external help. Do not copy from anywhere else. You should include a reference section at the end of the essay, and use an appropriate style of referencing to write it out. Wikipedia is not an acceptable source of reference and you will be penalised for including it in the reference section. Please write clearly, and structure your essay so that it is presentable and flows nicely. Clearly explain any models you refer to and discuss implications of their results.

Low bond yields in the 2010’s

The unconventional monetary policies followed by several central banks since 2008 has led to an increase in the demand for bonds, thus increasing the price of bonds and pushing bond yields much lower than historical average yields. For example, in February 2015 10-year bond yield were 2% in the US, 1.6% in Spain, 0.4% in Germany and Japan and -0.04% in Switzerland.
These low and especially negative bond rates are exceptional and have raised the question as to why bond investors are willing to accept such low bond yields. Unconventional monetary policies (quantitative easing or QE) that push up the demand for bonds and thereby increase bond prices are usually seen as the major reason for the low bond yields (remember the negative relationship between bond prices and bond yields).

Despite these low bond yields, investors have recently earned very favourable returns from bonds. For example, in 2014 the returns from the BlackRock Euro Bond Fund A2 EUR was 11.40%.  The total returns from investing in bonds consist of two parts: the yield on the bond, or the periodic interest rate payments, as well as potential capital gains or losses (selling the bond before maturity at a price higher or lower than the purchase price). In 2014, falling bond yields was the consequence of increased demand for bonds, leading to higher bond prices and thus capital gains for bond investors.

EC3214 Financial Economics II

Address the following issues in your write-up (see instructions above):

Firstly, Discuss some reasons for the low (and even negative) bond yields that prevailed at the beginning of 2015, by investigating themes like: Demographic changes among investors in industrialised nations; Currency gains from exchange rates; Negative Inflation; and Capital Regulations and Liquidity Requirements of institutional investors.

Secondly, Discuss the sustainability of these low bond yields.

Thirdly, Discuss the relationship between bond yields and capital gains that can be earned when investing in bonds. In other words, explain why bond investors earned relatively high total returns on bond funds in 2014, despite the record low bond yields at the time.

Fourthly,  Provide some reasons why bond investors were willing to accept negative bond yields in early 2015.

EC3214 Financial Economics II

Additional Sources/ references that you may want to consult to augment your knowledge

Buttonwood (2015). Accentuate the negative: Why investors would opt to lose money. The Economist January 24, 2015.
http://www.economist.com/news/finance-and-economics/21640373-why-investors-would-opt-lose-money-accentuate-negative

Oliver, S (2019). Global growth slowing, plunging bond yields & inverted yield curves – not terminal but shares are due a pull back. AMP Capital, March 26, 2019. https://www.ampcapital.com/au/en/insights-hub/articles/2019/march/global-growth-slowing-plunging-bond-yields-and-inverted-yield-curves

Bhansali, V and Emons, B (2015). Why the Bond Market Is Yielding Negative and What Negative Yields Mean for You. Pimco.
http://europe.pimco.com/EN/Insights/Pages/Why-the-Bond-Market-Is-Yielding-Negative-and-What-Negative-Yields-Mean-for-You.aspx

Huebscher, R (2015). Gary Shilling – Why You Should Own Bonds. Advisor Perspectives, February 17, 2015.
http://www.advisorperspectives.com/newsletters15/Why_You_Should_Own_Bonds.php