Welcome to early 2020, where we have a whole year of TBDs and fill-in-the-blanks ahead of us. One of the big unknowns for us in the US is whether the negative interest rate experiment will spread from Asia and Europe onto our shores. We covered what this could mean for alternative investments in our Global Macro/Managed Futures Outlook….
…there’s nearly $16 Trillion in negative yielding debt sloshing around the world. That sounds crazy, and irrational, and clearly unsustainable. And indeed, more than a fair share of managed futures/global macro managers complain about the artificiality of negative interest rates and how it has messed with the trendiness of bond markets – feeling that it is an unnatural event caused by central banks over reach (as evidenced by the Bank of Japan owning about half and ECB about 30% of their respective governments bonds).
But Pimco had an interesting take this year, saying negative interest rates are a natural result of a savings glut and increasing negative time preference of the world’s savers.
It can be argued that in affluent societies where people can expect to live ever longer and thus spend a significant amount of their lifetimes in retirement, more and more people demonstrate negative time preference, meaning they value future consumption during their retirement more than today’s consumption. To transfer purchasing power to the future via saving today, they are thus willing to accept a negative interest rate and bring it about through their saving behavior.
There seems to be a consensus that rates won’t go negative in the US, but surely this negative time preference concept is alive and well here in the US as much as in Europe, so we’re not so sure. And it’s never a good idea to think in absolutes. But here’s the best part…..we don’t care.
The futures investor can capture the same return on, say, a 20% move in interest rates, that they did with rates going from 3.50% to 2.80% as they can from rates going from 1.50% to 1.20%. They’ll just trade more contracts… while keeping their risk normalized between the two scenarios with tighter exits the lower the rates get.
Futures traders can also earn the roll yield when and if interest rate products go into backwardation, whereby even if rates remain unchanged, if they are expected to rise and don’t – the futures price will converge to the cash price at the end of the contract and provide the difference (the roll yield). As proof of all of this, look at the returns of the SocGen Trend Indicator in 2019 across the interest rate products:
You can clearly see the trend indicator having positive performance in the German Bobl, Bund, and Japan’s Government Bonds (JGB), despite all of those yielding negative rates for much, if not all of the year, and despite all of them moving within a pretty tight range in terms of the absolute level of movement (the JGB, for example, moved from about 0% to -0.29% at its lows).
Keep reading in our Managed Futures/Global Macro 2020 Outlook! And Happy new Year!