Earlier today, we discussed how after 8 long years spent wandering punch drunk through a dream-like Keynesian wonderland where all financial assets rise inexorably, the world finally woke up last month with a terrible hangover only to discover that after 637 rate cuts and $12.3 trillion in asset purchases, “quantitative easing” has been a “quantitative failure.”
Perhaps it was the harrowing volatility that tipped investors off to the fact that central bankers were failing. Or perhaps it was the realization that the persistent disinflationary impulse that hangs over developed markets isn’t exactly compatible with the notion that central banks are “succeeding.” Or maybe it was the BoJ’s move into NIRP which was quickly followed by a canceled JGB auction, a soaring JPY, and crashing Japanese equities. Of course it could have been tumbling yields on the US 10Y. Take your pick, but whatever the catalyst, everyone suddenly began to talk about central banker impotence as opposed to central banker omnipotence, and at that point, the narrative was lost.
Of course it’s too late to turn back now. There’s no telling what markets would do if central banks were to suddenly admit that this has all been one giant mistake and so, the monetary powers that be stick to the script. For instance, Haruhiko Kuroda – who is known for saying things so at odds with reality that one can only laugh – said last night that “negative rates are clearly having an effect” – just as Japanese stocks were collapsing on themselves (again).
And central bankers aren’t just doubling down on the rhetoric. They’re doubling down on the easing. Earlier this week, Stefan Ingves and the Riksbank cut Sweden’s repo rate by 15 more bps to -0.50% and Mario Draghi and co. are almost sure to follow suit next month. Meanwhile, Janet Yellen admitted that NIRP has been studied for the US.
In a note out Friday, BofA takes a fresh look at what the plunge down the NIRP rabbit hole has meant for the proliferation of negative-yielding assets in Europe.
A prolonged period of USD strength (in part due to policy divergence between the Fed and the ECB) quickly took its toll on a variety of markets including, of course, commodities and EM FX. “the negative effects of this deflationary wave have been visible,” BofA’s Barnaby Martin writes, adding that “credit rating downgrades have increased [while] European high-yield spreads reached their cycle tights right before” the dollar strength began to manifest itself in earnest. “[And] not because of rising defaults, but rather because of the growth in EM-domiciled credits in the index, thus raising the market’s sensitivity to the strong Dollar/weak commodity story,” he continues.
With that as the backdrop, here’s the rest of the story which explains how NIRP initially offset the bearish themes that accompanied the strong dollar/weak commodity deflationary deep dive but ultimately left the world with a $9 trillion pile of negative-yielding debt and created a “stealth” bear market in European corporate credit.
* * *
From BofA
For a while, these bearish themes in credit were suppressed by central bank stimulus in Europe. As interest rates were cut through zero, the phenomenal growth of negative- yielding bonds exacerbated the reach for higher returns in fixed income. The numbers continue to astound: total negative-yielding Euro debt now stands at €3.5tr, encompassing many asset classes. And after Japan’s foray into negative rates at the end of January, total negative-yielding global debt now stands at close to $9tr.
Yet, we argued towards the end of last year (and to our detriment not soon enough) that the chronic lack of yield was undermining the robustness of the corporate bond market, and was in fact creating a bear market “by stealth”. The clearest sign of this, in our view, has been the constant stream of credit outflows. The peak of retail inflows into the Euro IG market was May-15. Since then, retail investors have withdrawn close to $35bn (25% of the cumulative inflow since 2010) – the largest drawdown by investors in the post-Lehman bankruptcy era. So much central bank liquidity, and yet so little inflow…
Further down the rabbit hole…
However, the fascination with NIRP policies continues after Sweden cut rates from -35bp to -50bp yesterday. Negative central bank rates now seem to be the norm rather than the exception. But amid the “race through zero”, not all currencies will weaken.
* * *
BofA’s conclusion: “QE has, ironically, left the credit market in a more vulnerable position to outside shocks than at any time in the post-Lehman bankruptcy era, we think.”
Ah yes, more unintended consquences of central bankers gone Keynesian crazy. Don’t expect Mario Draghi to mention this at next month’s presser.
via Zero Hedge http://ift.tt/1Sm5Usq Tyler Durden