Good morning and welcome to the second in our short series looking at different aspects of the fixed-income investing world. Last week David looked at “fallen angels” – today he asks why any investor would offer to lend their money to a government for a century.
Global bond markets have grown remarkably accustomed to extraordinary events over the last few years, what with the rise of negative interest rates and yields.
But in June, the government of Austria jolted the markets by succeeding in placing a €2bn bond issue on a yield of 0.88% – for 100 years.
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Yes, you did read that right. The Austrian government is borrowing money for a hundred years at 0.88% per annum.
Yet what is even more extraordinary is that this wasn’t Austria’s first attempt at issuing a cheap 100-year government bond.
100-year bonds are in strong demand
Back in 2017, Austria’s government issued a bond with a “huge” (by comparison with 2020) yield of 2.1%, for the hundred years to 2117.
The sceptic at this point might be guffawing and suggesting that this is surely an example of good money chasing bad, especially as the 2020 issue was eight times oversubscribed.
But they’d be wrong, as the subsequent price action has amply demonstrated.
The yield on this 2017 bond began dropping from that initial 2.1% almost immediately. Then in 2019 it crashed to below 1% and then at the height of the coronavirus lockdown earlier this year, it fell to below 0.5%.
This slide in yields in turn means that the price of said bond has substantially increased (when bond yields fall, prices rise and vice versa – think of it as a seesaw). Indeed, the bond now trades for more than twice its face value.
Flash forward to 2020 and the newest issue is also trading above the issue price, with a decline in the yield in the last few months. Put simply, demand for these bonds has been substantial.
And it’s not just Austria which is tapping this demand for the long-term capital - Ireland and Belgium have also issued 100-year debt (in private placements), France has sold 50-year maturities, as has Italy, while Germany is focusing on 30-year durations.
According to one estimate, in the ultra-long space, 2020 has already seen more issuance in the 100-year maturity area than for all of 2019. But not every country has jumped on the bandwagon – earlier this year US Treasury Secretary Steven Mnuchin said that the US government had shelved plans to issue 50-year bonds because there was little interest among investors.
According to Mnuchin: “we went out to a large group of investors and solicited feedback from our Treasury borrowing committee and I was somewhat surprised that the result was that there’s some interest in this, but perhaps not enough that it would make sense to issue those bonds at this time”.
But he added that the government hasn’t completely abandoned the idea. Most investors expect the US government to focus on 30-year duration bonds for the time being.
So it’s clear that what was once regarded as the preserve of emerging markets economies – both Argentina and Mexico have issued 100-year bonds in the past – has turned mainstream. And while both the US and UK governments might currently be cool on the idea, plenty of other issuers have emerged, even in the corporate world. The Walt Disney Company (DIS) and Coca-Cola (KO) have both issued 100-year bonds in the past.
Why do investors like these bonds?
One thing is clear – investors right now are keen on these bonds, which are described as “ultra-long duration”. Why?
Firstly, Austria, like many developed world countries, is viewed as low risk, so by investing in its 100-year bond, investors are at least locking in a long-term positive return – many shorter-duration government bonds in Europe, by contrast, are currently negative yielding.
Secondly, ultra-long duration bonds also benefit from something called “positive convexity”. If you own long-dated bonds with low coupons (low payouts) their purchase price rises more sharply when yields fall.
As a note on this convexity strategy by investment bank JPMorgan puts it: “with a high convexity bond, the price falls less if yields go up, than it increases when yields go down. That asymmetry is very interesting for some investors who can use it as a hedge if interest rates, as some expect, have further to fall.” Many institutional investors or endowment funds also use 100-year bonds to extend the duration of their bond portfolios to meet certain investment goals.
Of course, it’s also worth noting that many investors don’t hold these bonds for 100 years. They might buy a popular 100-year bond, sit tight for a few months, then wait for secondary demand to push up the price.
One last footnote – in the past we have had bonds with even longer durations. Perpetual bonds issued by the UK government, known as consols, were launched in the mid-1700s, with more emerging again in the 1800s and even as late as 1927, offering yields in the 2.5% to 4% range. Some of these were only bought back again as late as 2014. However, some economists have suggested that the US government start issuing perpetual Treasury bonds as a way of avoiding any future debt repayment overhangs.
David Stevenson has been writing the Financial Times Adventurous Investor column for nearly 15 years and is also a regular columnist for Citywire.
He writes his own widely read Adventurous Investor SubStack newsletter at davidstevenson.substack.com
David has also had a successful career as a media entrepreneur setting up the big European fintech news and event outfit www.altfi.com as well as www.etfstream.com in the asset management space.
Before that, he was a founding partner in the Rocket Science Group, a successful corporate comms business.
David has also written a number of books on investing, funds, ETFs, and stock picking and is currently a non-executive director on a number of stockmarket-listed funds including Gresham House Energy Storage and the Aurora Investment Trust.
In what remains of his spare time he is a presiding justice on the Southampton magistrates bench.
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