Meaning of a Negative Bond Yield
Negative bond yields are an unusual situation in which debt issuers are paid to borrow. At the same time, depositors or bondholders pay cash instead of collecting interest income.
Understanding Negative Bond Yield
Bonds traded on the open market will effectively yield negative bond yields if the price of the bond trades at a reasonable premium. Bond prices change inversely with bond yields—the higher the bond price, the lower the yield. At some level, the price of a bond will increase enough to give the purchaser a negative return.
Why Investors Purchase Negative Yielding Bonds?
It was reported in 2016 that as much as 30% of the global government bond market and some corporate bonds traded negatively. Factors of why investors may be interested in such low-yielding bonds include creditors, such as central banks, insurance firms, and pension funds, that have to buy bonds, even though the financial return is low. This is to satisfy their liquidity needs, and they can also be pledged while borrowing.
Another factor is that some investors still feel that they can make money with negative returns. For example, foreign investors may assume that the currency would increase, which would offset negative bond yields. Domestic investors might expect a period of deflation that would allow them to make money by using their savings to purchase more goods and services.
When countries put in negative interest rates, it contributes to the production of government bonds with sub-zero yields. Investors still purchase these bonds as they have good liquidity, and few options are safer than government bonds.
If more fixed-income securities are low-yielding, the returns provided by bonds will begin to reach the negative territory. Some investors are, therefore, buying bonds with negative returns because they believe that future bonds will offer even worse returns.
