It’s not a bond bubble, it’s a HARD currency …

Markets sure are unusual at the moment. The price action is testing all sorts of assumptions – and has busted one of my longstanding views. (Partially) based on the observation of JGBs over the years, I had concluded that nominal bond yields could not remain negative for a sustained period of time.

Facts have made a fool of me  … what I had dismissed as a technical anomaly a month ago (the top dashed line is a month back) has now become a ‘feature’ of the CHF Bond market.

The Jan’14 Bond is now -30bps, the Nov’14 is -25bps, the Mar’16 is -8bps, and the Oct’16 is -3bps .. the question is why?

I suspect that foreign money is pouring out of Europe and into CHF capital markets.

Out of EUR because folks do not want the uncertain currency position – they are not sure if there will be a EUR in a few years time, however they have confidence in the Swiss Franc.

You can see that EURCHF has been sitting at the SNB’s 1.20 floor for a few weeks now – I wonder who is buying all that EUR?

SNB data for the week to 25 May show ~17bn CHF increase in sight deposits (around EUR14.2bn at EURCHF 1.20). My guess is that this number will have significantly increased in the most recent week.

I also suspect that SNB’s swelling EUR portfolio is one of the major reasons that 6m German bills offer a handsome -3bps return (not to mention 10yrs at 1.27%).

Why into bonds – and not bank deposits? Perhaps these investors do not trust that banks will remain solvent if the worst happens, so they prefer the security of a Government that is very unlikely to go broke over a zero interest bank deposit.

Why not cash? After all that is a zero yield claim on the swiss government – well, where are you going to put that many Francs?

MOnetary policy is bond buying, and the world needs easier monetary policy just now – so i have every expectation that yields will keep falling.

Finally, I want to take a pot shot at the “yields drive FX” view of the world. Currency and Bonds are both liabilities of the National Treasury – the primary factor to consider when valuing both is the expected future surpluses process (parenthetically, that means that we already have a form of Euro-bond, the EUR … but that’s another story!).

In the current market, this ‘credit view’ is driving capital flows. This is why yields are falling and currencies are staying up in markets where the sovereign’s credit is strong. That is what’s happening in Australia just now.

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