On Tuesday, the Italian Prime minister Giuseppe Conte resigned as Italy’s prime minister. This was after the interior minister Matteo Salvini, of the Lega Party, called for a no-confidence vote in its own ruling coalition. Conte’s resignation plunges Italy into another political crisis, with the search now on for a new administration in order to avoid snap elections. In his resignation speech, Conte accused Salvini of ‘pursuing his own personal interest…’. This echoed a widely held feeling that the increasingly popular (and populist) Salvini is seeking new elections in order to boost his own standing.
However, elections leading to a new coalition government, especially an even more oppositional one to EU budget rules, would not be a good outcome for either Italian government bonds or equities. Both performed poorly immediately following news of Conte’s resignation, before rallying - the Italian 10-year bond yield remains lower than its US counterpart.
Fed disunited on rates
Minutes were released from the Federal Reserve’s last rate-setting committee meeting of 31 July, which indicated a potentially problematic divergence of opinions among voting members. Most officials supported the 0.25% interest rate cut that was announced, but saw this as a mid-cycle adjustment. However, within this broad consensus, a couple of members had called for a larger 0.50% interest rate cut in order to tackle stubbornly low inflation. Conversely, several officials voted in favour of keeping interest rates unchanged, judging the economy to be in a good place.
What conclusion, if any, can be drawn from this divergence of opinions among Fed officials? Among all the debate, at least one thing seems clear: the state of the US economy seems unusually open to interpretation at the present time.
Tariff uncertainties worse than the actual bite?
A report published by Bloomberg Economics on Monday suggested that uncertainties relating to tariffs may be considerably more damaging than the tariffs themselves. According to the report, uncertainty created by the US/China trade war could cut US, China and world growth by 0.6%, 1.0% and 0.6% respectively by 2021, compared to a no-trade war scenario. The tariffs themselves would also reduce global growth, but by 0.3% for the US, 0.6% for China and 0.3% for the world. In other words, it seems the impact of tariff uncertainty could be nearly twice as damaging for the global economy as the tariffs themselves.
The rising price of safety
An important theme in global bond investing is the increasing number of bonds offering negative yields. Amid increasing global economic uncertainty, this essentially reflects growing investor demand for ultra-safe investments.
Adding to the stock of more than $16 trillion of negative yielding bonds globally this week was a new 30-year German government bond, which was issued with a record low yield of -0.11%. As widely reported, this means that the whole of the German government yield curve is now negative. In more practical terms, this means that regardless of the duration of loan to the German government, bondholders are certain to get back less than what they paid if they hold the bonds to maturity. The demand for this offering was weak however, sitting at just €824 million, missing the €2 billion target.
Negative yielding bonds might sound like a bad investment proposition, but in fact money can still be made from them if investors get their timing right. In particular, since yields and prices of bonds move in opposite directions, this means that prices can still keep rising if yields keep becoming more negative; investors can then profit if they proceed to sell their bonds. Indeed, this is exactly what has been happening in the case of some bonds. For example, the 10-year bund yield currently stands at -0.64%, which is down significantly from -0.20% at the end of May.
US President Donald Trump cancelled a planned state visit to Denmark, after his offer to buy Greenland was refused. Mette Frederikson, the new centre-left Danish prime minister, said that while Denmark was still interested in ‘strategic co-operation’ with the US, the idea of buying Greenland was ‘absurd’. In an attempt to spell her position out more clearly, she added that ‘Greenland is not Danish. Greenland is Greenlandic’. In response, President Tump, who had earlier tweeted a superimposed image of Trump Tower on Greenland, described Ms Frederikson as ‘nasty’.