In the future will all mortgage rates be negative?

Today I thought that I would look at some real world implications of the surge in bond markets which has led to lower and in more than a few cases ( Germany and Switzerland especially) negative bond yields. The first is that government’s can borrow very cheaply and in the case of the two countries I have mention are in fact being paid to borrow at any maturity you care to choose. This gets little publicity because government’s prefer to take the credit themselves. My country the UK is an extreme case of this as the various “think tanks” do all sorts of analysis of spending plans whilst completely ignoring this basic fact as if a media D-Notice has been issued. I would say that “think tank” is an oxymoron except in this instance I think you can take out the oxy bit.

Negative Mortgage Rates

Denmark

Back on the 29th of May we were already on the case.

Interest rates on Danish mortgage loans have fallen since 2008. From an average interest rate including administration fee of close to 6 per cent in 2008 to under 2.2 per cent in August 2018. This is the lowest level since the beginning of the statistics in 2003.

Back then we also observed this.

For one-year adjustable-rate mortgage bonds, Nykredit’s refinancing auctions resulted in a negative rate of 0.23%. The three-year rate was minus 0.28%, while the five-year rate was minus 0.04%.

As you can see at the wholesale or institutional level interest-rates had gone negative and the central bank the Nationalbanken had seen reductions in the fees added to these as well.

That was then but let us pick up the pace and move forwards to the 2nd of this month. Here is The Local in Denmark.

Mortgage provider Realkredit Danmark will next week start offering Denmark’s cheapest ever 30-year mortgage, with an interest rate of just 0.5 percent per year. The fixed-rate 30-year loan is the lowest interest mortgage ever seen in Denmark, and is likely to be matched by Realkredit competitor Nordea Kredit.

That implied negative mortgage rates at shorter maturities although we already knew that but this week things have taken a further step forwards or perhaps I should write backwards. From Bloomberg.

In the world’s biggest covered-bond market, a Danish bank says it’s now ready to sell 10-year mortgage-backed notes at a negative coupon for the first time.

It’s the latest record to be set in a world that’s being dragged down by ever lower interest rates. In Denmark, where Jyske Bank will offer 10-year mortgage bonds at a fixed rate of minus 0.5 per cent, average Danes will borrow at rates far lower than those at which the US government can sell its debt.

Since then things have taken a further step as Nordea has started offering some mortgage bonds for twenty years at 0%, So we have nice even 0.5% changes every ten years.

If we look at Finance Denmark it tells us that variable rate mortgage bonds are at -0.67% in Danish Kroner and -0.83% in Euro in the 31st week of this year with a noticeable 0.2% drop in Euro rates.

This is impacting on business as we see that the latest three months have seen over 30,000 mortgages a month taken out peaking at 39,668 in June. This compares to 16/17k over the same 3 months last year so quite a surge. If we switch to lending volumes then the Danish mortgage banks lent more than double ( 212 billion Kroner) in the second quarter of this year.

Also as the Copenhagen Post points out whilst it may seem that negative mortgages are easy to get banks will behave like banks.

Banks are set to make money from the mortgage loan restructuring.

“We are in the process of a huge conversion wave, and the banks are of course also very interested in talking about that. Because they make good money every time a new loan is taken up,” explained Morten Bruun Pedersen, a senior economist at the Consumer Council, to TV2.

These days banks make money from fees and charges as there is no net interest income and on that subject we have a curiousity. On the one hand Danes are behaving rationally by switching to cheaper mortgages on the other the data from the Nationalbanken is from earlier this year but they have around 900 billion Kroner on deposit at 0% which is less rational and will have central banking Ivory Towers blowing out plenty of steam.

So whilst there are some negative mortgage rates the fees added are doing their best to get them into positive territory. The Nationalbanken highlights this here.

In 2018, Danish households paid an average interest rate of 1.20 per cent on their mortgage debt along with 0.96 per cent in administration fees.

I guess someone has to pay the banks money laundering fines

Just for research purposes I looked at borrowing 2 million Kroner on the Danske bank website and after 30 years I would have repaid 2.2 million so not much extra but it was positive.

Portugal

It has not been reported on much but there was an outbreak of negative mortgage rates in Portugal as this from Portugal on the move highlights.

The new law forces banks to reflect Euribor negative interest in home loan contracts. It was supported by all political parties in the country except the centre-right PSD which abstained.

The bill, which the banks and the Bank of Portugal tried to block, applies to all mortgages index-linked to Euribor rates.

Above all the law will benefit those with Euribor mortgages with very low spreads (commercial margins of banks), at around 0.30%.

The law allows for Euribor rates, currently in the negative across all terms, should be reflected in contracts, even after the cancelled spread, which implies a capital payout.

Typical that the banks would try to evade their obligations and notable that the Bank of Portugal could not look beyond “The Precious”

UK

When the credit crunch hit the UK saw a brief burst of negative mortgage rates. This was caused by the market being very competitive and mortgages being offered below Bank Rate and so much so that when it plunged to 0.5% some went negative. The most famous was Cheltenham and Gloucester and I forget now if it went to -0.02% or -0.04%.

This had wider consequences than you might think as banking systems were unable to cope and repaid capital rather than recording a negative monthly repayment. That was echoed more recently in the saga in Portugal above. A consequence of this was that the Bank of England went white faced with terror muttering “The Precious! The Precious!” and did not cut below an interest-rate of 0.5%. This was the rationale behind Governor Carney;s later statements that the “lower bound” was 0.5% in the UK.

If you are wondering how he later cut to 0.25% please do not forget that the banks received an around £126 billion sweetener called the Term Funding Scheme.

Comment

So we have seen that there are negative mortgage rates to be found and that we can as a strategy expect more of them. After all it was only yesterday we saw 3 central banks cut interest-rates and I expect plenty of others to follow. A reduction in the ECB Deposit Rate (-0.4%) will put pressure on the Danish CD rate ( -0.65%) and the band will strike up again.

In terms of tactics though maybe things will ebb away for a bit as this from Pimco highlights.

It is no longer absurd to think that the nominal yield on U.S. Treasury securities could go negative……..What was once viewed as a short-term aberration – that creditors are paying debtors for taking their money – has already become commonplace in developed markets outside of the U.S. Whenever the world economy next goes into hibernation, U.S. Treasuries – which many investors view as the ultimate “safe haven” apart from gold – may be no exception to the negative yield phenomenon. And if trade tensions keep escalating, bond markets may move in that direction faster than many investors think.

The first thought is, what took you so long? After all we have been there for years now. But you see Pimco has developed quite a track record. It described UK Gilts as being “on a bed of nitro-glycerine” which was followed by one of the strongest bull markets in history. Also what happened to US bond yields surging to 4%?

Maybe they are operating the “Muppet” strategy so beloved of Goldman Sachs which is to say such things so they can trade in the opposite direction with those who listen.

As to the question posed in my headline it is indeed one version of our future and the one we are currently on course for.

 

 

 

The impact of negative interest-rates on the economy of Denmark

Whilst so much of the media and indeed the world were focusing on the travails of my old employer Deutsche Bank yesterday something else significant sneaked under many radars. This was the International Monetary Fund lecturing Switzerland on the subject of negative interest-rates as you can see below.

Calibrating the negative interest rate differential so as to discourage persistent inflows that can cause prolonged deflation and weaken activity is appropriate.

A rather flowery way of suggesting an interest-rate cut from the present -0.75% which is reinforced here.

Some widening of the current effective interest rate differential—either by lowering the exemption threshold or the marginal policy rate—could therefore be considered to reduce the frequency of small-scale interventions.

So the IMF would prefer that Switzerland cut its interest-rates again further into negative territory rather than intervene in foreign exchange markets. That is intriguing on two fronts and the first is the fact that it is tempting it to test where the lower bound is which I shall define as the point at which bank depositors switch to cash. The second is that it is setting interest-rate for foreigners and foreign investors rather than the domestic economy. Indeed for the domestic economy there is potentially trouble ahead according to the IMF.

Sustained low interest-rates could raise financial stability risks……..Elevated household debt and banks’ concentrated exposure to mortgages could be key amplifiers in the event of macroeconomic shocks .

Reality for Denmark

This made me think of the country which has had negative interest-rates for the longest as Denmark plunged into that icy cold world in early July 2012 when it cut to -0.2%. They have been there since apart from a brief foray to the not so giddy heights of 0.05% in late spring and summer 2014. Also if the IMF view extends to other countries which set their interest-rate more for the foreign exchanges than domestic demand there might be another reverse ferret on its way.

Effective from 8 January 2016, Danmarks Nationalbank’s interest rate on certificates of deposit is increased by 0.10 percentage point to -0.65 per cent.

As it was nobody was expecting an end to negative interest-rates anytime soon according to the Nationalbanken or DNB.

The implied overnight interest rate does not reach 0 per cent until in four years

The ordinary experience

This is for borrowers as follows according to the DNB.

Viewed over a longer period, there has generally been close to full pass-through from the rate of interest on certificates of deposit to the banks’ lending rates.

We note they took their time and wonder about how we define close but okay. However the experience for the ordinary depositor remains different.

The banks have been hesitant to pass on the negative rate of interest at Danmarks Nationalbank to small enterprises and especially to households. The latter have been completely exempt from negative deposit rates.

I have wondered along the line of the lyrics below about this.

How long has this been going on?
How long has this been going on?

As far as we can tell banks will continue to resist passing on negative deposit rates to the ordinary investor. However businesses are not exempt as some 30% of deposits are and I have pointed out the dangers to long-term business models from them.

Negative deposit rates are in widespread use for insurance and pension companies, for which the alternatives to bank deposits are placement on money market-like terms, e.g. in short-term securities, likewise at negative rates of interest.

Actually it would now appear that the pension industry likes very few potential futures.

Some pension companies have reported to the Danish Financial Supervisory Authority that substantial interest rate hikes would be the worst scenario imaginable for them.

Mortgage Rates

The Danish Mortgage Bank data is delayed but in week 22 of 2016 then the average short-term rate was -0.23% in Danish Kroner and -0.13% in Euros. The long-term rate was 2.65%.

Any signs of trouble?

If we were to find any they would be found in asset markets of which the likeliest is house prices. On that I noticed this in the DNB Monetary Review.

Since March, the yield on mortgage bonds has fallen more sharply than the yield on government bonds,

Rather awkwardly the rally was driven by foreign investors noting that the ECB (European Central Bank ) is buying such bonds ( covered bonds) in the Euro area making the Danish variety look more attractive. So what about the housing market.

Let me hand you over to a report earlier this month from the DNB which opens with an official denial of what Taylor Swift would define as “Trouble,Trouble,Trouble”.

Although house prices have risen considerably over the last 3-4 years, there are no indications that the Danish market overall is experiencing a speculative house price bubble.

Ah so over the period of negative interest-rates! In case you are wondering about the overall state of play here it is.

But today’s annual increases of 4-5 per cent do not indicate a bubble.

However it has been ” Wonderful! Wonderful! Copenhagen” for those who have invested in property there.

However, price increases in Copenhagen have been so persistent and strong that the development could be consistent with a bubble according to the test, just as in the mid-2000s……. So Danmarks Nationalbank finds that there is reason to monitor developments in Copenhagen closely.

So we learn that monitoring closely is one step up from being “vigilant” in central banker speak. Also those who want to buy in Copenhagen must feel excluded in many cases.

The Real Economy

This has been troubled during this period but has so far in 2016 seen a better phase recording quarterly GDP growth of 0.7% and then 0.5%. But considering the monetary stimulus the forecasts are hardly stellar.

Danmarks Nationalbank expects the gross domestic product (GDP) to grow by 0.9 per cent this year, rising to 1.5 and 1.8 per cent, respectively, in the next two years.

However according to the Governor there may well be trouble ahead.

“We expect the economy to reach its normal capacity level as early as 2018. Conducting expansionary fiscal policy well beyond that point is risky, especially if interest rates continue to be very low. There is a risk of overheating and economic imbalances, which it may be necessary to take measures to prevent,” says Lars Rohde.

He also thinks that fiscal policy needs tightening which means that the current establishment memo seems to have forgotten to be sent to Denmark.

Comment

There is much to consider here. Firstly I think that advocates of monetary stimulus have to conclude that the effect on economic growth has disappointed. Denmark has simply not had much and if you factor in the lower oil price it has not done well at all. As to specific news we have reports in the Copenhagen Post of businesses bring production home but also the problems of world shipping are affecting Maersk on the other side of the coin.

Meanwhile we are seeing another move higher in house prices which has even the central bank getting out its slide rule for bubbles! I also note it seems to be hinting/asking for higher taxes on property. On that front well as we see yet another record low for the 2 year bond yield of Germany as it get safe haven flows because of the problems of Deutsche Bank  we may yet see more downwards pressure on interest-rates and yields. Oh and as Elton John put it “Please don’t shoot the piano player” about the last sentence.

Something rather familiar to UK and US readers is found in Denmark which is that employment has done better than GDP growth which raises a familiar concern and theme.

Productivity growth in the Danish economy has been weak in the wake of the financial crisis. This is especially the case from the 2nd half of 2015 and onwards when the decoupling of output and the labour market situation calls into question future productivity growth and the actual sustainability of the growth in employment seen during the last year or so.

Share Radio

I was interviewed on the evening show by Simon Rose yesterday.

 

 

Are mortgage rates in Denmark part of a “mad world”?

This morning has started with a familiar drum beat for these times as we see higher bond prices in Japan and the consequent record lows in yields.

The 10-year JGB yield edged down half a basis point to minus 0.160 percent, after earlier setting a record low of minus 0.165 percent…..The 20-year JGB yield also set a fresh record low of 0.180 percent, shedding 1.5 basis points, as did the 5-year yield, dropping half a basis point to minus 0.275 percent .

As prices are going “higher and higher” and yields “Fallin’ ” we are now seeing consequences for the ordinary man and woman and the obvious place to look for this is Denmark. You see it has the longest history of official negative interest-rates with the certificate of deposit rate being cut to -0.2% on the 6th of July 2012 and being -0.65% as I type this. So we about to see four years tick up albeit with a brief spell in 2014 when the rate was raised to the apparent heights of 0.05%. Oh how the Nationalbanken must wish it could erase evidence of that move! As it was wrong footed by a policy change at the European Central Bank with more deception than any player I have seen so far at the 2016 European championships.

Such a thing is especially troubling as we mull how many central banks have started tightening cycles only to find that they cut again and in Denmark’s case to record lows. Although right now it is at -0.65% so just above the nadir of -0.75%. That is quite a contrast to the “expert” view which has had a consensus that negative interest-rates were not going to last long.

Mortgage Rates

This is one of the ways we can investigate the impact on the ordinary Dane and there are new developments in this arena.

Mortgage banks in Denmark stop offering loans when the bonds funding them trade above par on the secondary market. Until recently, lenders were largely dispensing 30-year mortgages with coupons of 2.5 percent.

But the bonds behind them have climbed above 100 in recent days. If demand persists and the notes stay above par, lenders will start offering mortgages at 2 percent and 1.5 percent on 30 year maturities. The U.S. government’s 2.5 percent 30-year bond yielded about 2.45 percent at the end of last week.

As you can see the Danish mortgage borrower can borrow as cheaply as the US Government and if the coupon drops to 2% well they can borrow more cheaply than the UK government over a 30 year period. So the ordinary borrower has the potential to lock in very low levels for mortgage-rates over a 30 year period in which case this particular shadow of the credit crunch era will stretch to at least 2046.  From the way the article is written 2% seems not far off a done deal if 1.5% is also in prospect,although the later feels subject to some hype.

As to whether the Danes will respond well the answer seems to be yes if last year was any guide.

The last time Danish mortgage-bond yields fell to current levels, borrowers refinanced en masse, piling into loans with longer maturities at an unprecedented level. That was last year, after Switzerland sent its franc into a free float……Fixed-rate loans now make up about a third of Danish mortgage lending.

Oh and as to the below isn’t everything these days? The emphasis is mine.

The development has been a windfall for banks, which are under pressure from regulators and ratings companies to cut the proportion of loans backed by short-term bonds to reduce refinancing risks.

I do not know about you but the statement below seems to be rather tempting fate.

What’s more, borrowers can’t walk away from their debt.

Negative Mortgage Rates

There has been a lot of speculation and hype about this but the Danish Mortgage Bank Association keeps a weekly record of the yields on Danish mortgage bonds. The short-term rate for Kroner mortgage bonds was last at -0.23% and has been negative for all but two weeks in 2016. If we move to Euro mortgage bonds as we recall the Krone is pegged to the Euro then the yield on short-term mortgage bonds was last -0.13% and it has been negative for all of 2016 so far.

Back in April the Wall Street Journal was on the case.

Hans Peter Christensen got some unusual news when he opened his most recent mortgage statement. His quarterly interest payment was negative 249 Danish kroner…. Realkrdit Denmark, one of the nation’s largest home lenders, provided 758 borrowers with negative interest-rates last year.

If only his name had been Hans Christian Anderson…

House Prices Rise

Even the IMF is on the case.

Fueled by historically-low interest rates, house prices have risen rapidly in recent periods—especially for flats and in Copenhagen……..the market bears close watching since a continuation of the uptrend would soon bring real house prices in these segments back to pre-crisis levels.

The data is delayed but the owner occupied flat index was up 9.2% in the year to March. The Nationalbanken suggests that the only way is up baby.

expectations of further positive developments in the housing market.

First-time buyers will of course have reason to disagree.

The debt problem

The IMF tried to sweep this issue under its carpet.

and the absence of an attendant rapid build-up in household debt.

That seems fine except if we note this from the Danish mortgage association.

The market value of all Danish outstanding mortgage bonds (traditional mortgage bonds, covered bonds and covered mortgage bonds) exceeds DKK 2,300bn (app. EUR 310bn). The Danish mortgage bond market is actually more than four times larger than the Danish government bond market. The market value also exceeds total Danish GDP.

Sadly it is out of date in terms of data however i helped out a bit on August 24th last year.

The country’s households, which carry the rich world’s biggest gross debt loads relative to disposable incomes…

Comment

There is much to consider here but whilst the mainstream media continues of course to blame this on the Brexit referendum there is a culprit even closer to home. The Nationalbanken pegs the Krone to the Euro which means that Danish securities and an extremely close proxy for Euro area ones whilst the peg holds. The consensus view on the peg  is given by Bloomberg.

The man running Denmark’s biggest pension fund is convinced nothing can break the country’s euro peg.

This means that the 172.2 billion Euros of the third phase of the ECB’s covered bond purchases will have a strong effect on Danish covered bond prices and yields too. Odd that this is missed and of course there will also be an impact from the new corporate bond program which is doing this today.

ECB out again this morning buying more short end autos, 2-3y Chem names & 7-10y Pharma names (@creditmacro )

What could go wrong?

Also with the strong influence of the housing market on the economy of Denmark you might think that the economy would be surging, certainly economics 101 tells us that. But the last 3 quarter have gone -0.6%, 0.1% and then 0.5% so an improving trend yes but just under flat overall. If we look bank the Nationalbanken notes a credit crunch era of relative underperformance.

The low rate of growth in Denmark is to a large extent attributable to weak domestic demand.

On the other side of the coin Denmark does have substantial pension fund assets. How are they going though in a negative interest-rate world…..

Time for Tears For Fears or more recently Gary Jules.

When people run in circles it’s a very very
Mad world
Mad world
Mad world
Mad world