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What makes this article a bit confusing is that they give an answer without making it clear what the question was. Here's the missing question: Imagine you are
by fauigerzigerk 8y ago
What makes this article a bit confusing is that they give an answer without making it clear what the question was.
Here's the missing question: Imagine you are a Eurozone pension fund or life insurer. You have to invest billions of euros very safely and eek out a return that is no less than inflation. How do you do that?
Inflation (HICP) was 1.73% in 2018. German Bunds, the safest euro denominated investment with sufficient volume, yield close to 0%. Now you look across the Atlantic and find that 10 year treasuries yield 2.63%.
The problem is that simply investing in treasuries wouldn't work because currency fluctuations would likely dominate any interest income. So you would need to hedge the currency.
The Bloomberg article is about why hedging the EUR/USD currency pair is currently too expensive for this idea to work.
It matters for European savers, including everyone who is paying into a defined contributions pension (e.g most workplace pensions). A significant chunk of those savings currently yields negative returns. The alternative is to take a lot more risk than you want to or are allowed to take.
- fuckyah 8y agoYou invest in a total market stock index fund. Good choices are VTSAX or VTWAX :P
- fbonetti 8y agoWhy bother investing it at the point? What’s the advantage over holding cash?
- IkmoIkmo 8y agoBecause it's a non-negative return Because the ECB had negative rates for a while, i.e. some parties had to pay to hold cash. And lastly, because economic developments which don't affect cash, may affect bonds. i.e. if the interest rates drop, existing bonds will become more valuable. I don't expect this to happen, but the point is that you don't just buy bonds for their return today, but also in expectation for their relative return compared to the rest of the bond market in the future, i.e. their future value. That doesn't apply to cash in the same way.
- JumpCrisscross 8y ago> What’s the advantage over holding cash? Where do you hold the cash? Physically? As deposits in a bank? “Cash” is short hand. This article debates different forms of cash. (OTR sovereign bonds are usually considered cash.)
- JDiculous 8y agoHow is a bond the same thing as cash? I can't walk into a supermarket and buy a loaf of bread with a sovereign bond.
- drcharris 8y agoIn the world of finance, "cash" is often shorthand for "cash or cash equivalents". Instead of the usual layperson interpretation where cash is "a bunch of currency, either physically in my hand or in a bank account", the meaning here is "stuff with incredibly low risk" i.e. you can be very sure that you'll not lose money over time. Sovereign debt, including bonds, is regarded as the safest type of debt and therefore falls into the 'risk-free' bucket in the finance world. Since cash is usually regarded as risk-free, the word "cash" has come to be a short-hand for "(almost entirely) risk-free assets".
- repolfx 8y agoYeah, but using the word "cash" that way isn't a good idea. I understand why they do it but it's still asking for trouble. For one, sovereign bonds are very obviously not risk free. Governments have a long history of going bankrupt or giving bond holders haircuts. They're treated as such because regulations passed by governments force them to be treated as such, which is clearly self-serving. The finance world is mixing up "we must pretend it's risk free" with "actually risk free".
- njarboe 8y ago"Cash" is also not risk free. Probably higher risk than US, Japanese, German, or British bonds. In the current fiat era a country is more likely to print money than default on its bonds. Countries that have recently gone bankrupt or gave bond holder haircut, rarely can borrow in their own currency anywhere near the rates on US dollar denominated loans.
- fauigerzigerk 8y agoBecause cash yields -1.73% at best. Perhaps less if negative interest is charged on large deposits. And where do you store it safely?
- deleted 8y ago[deleted]
- benj111 8y ago"The alternative is to take a lot more risk than you want to or are allowed to take" What DC scheme wouldn't let you put say 100% in shares? Or if not you could take the currency risk on yourself, and buy US shares. Want to take? That's an interesting question. I would contend that if bonds are yielding 0.08%, they're probably overpriced and thus too risky to buy. I say that as some one 100% in equity with a long time to retirement, so to each their own.
- fauigerzigerk 8y ago>What DC scheme wouldn't let you put say 100% in shares? I'm looking at it from the point of view of fund managers. If the fund promises to invest 50% in bonds then someone's job will be to find suitable bonds. If you're young and you are free to choose how you want to save for your pension then I agree that stocks are probably safer. Perhaps even if the whole world slowly turns into Japan.
- kgwgk 8y agohttps://www.oecd.org/daf/fin/private-pensions/2018-Survey-Investment-Regulation-Pension-Funds.pdf https://www.oecd.org/daf/fin/private-pensions/2018-Survey-In...
- alecco 8y agoAnd this is a big part of the reason the majority of pension systems in Europe are going to be bankrupt within 10 to 15 years. (The other part being the inverted population pyramid)
- jacksproit 8y agoYou shouldn't make statements about the future with such confidence, it is impossible to predict what will happen with any real degree of certainty.
- alecco 8y agoThat's from projections of population and liabilities. A huge amount of people will retire in 10-15 years. [1] https://www.populationpyramid.net/western-europe/2017/ https://www.populationpyramid.net/western-europe/2017/
- fauigerzigerk 8y agoThere aren't that many defined benefits workplace pension schemes left. Some have already gone bankrupt. Others were restructured into defined contribution schemes. And state pension schemes are not usually investment based at all. They are usually funded by current social security contributions and taxes. If they go bankrupt it's for political reasons. More likely than bankruptcy is that many people will receive lower pensions than they had hoped for.
- mtanski 8y agoSo with EUR/USD hedge the assumption is that USD is going to drop or become more unstable in the future? I don't think anyone assumes the opposite, that the EUR will rise as a result of strong economics performance.
- cinquemb 8y agoYeah it has to be the assumption, but at the same time it makes one wonder why EUR/USD hedging is increasingly expensive in the first place… though if one pulled up a monthly chart going back 10 years and their head wasn't tucked between their legs, its easy to see why.
- fauigerzigerk 8y agoWhat if you simply don't want to take a directional bet on that? I don't find it exactly reassuring if everyone is already thinking the same thing.
- cinquemb 8y agoBeing long one currency, is an implicit short against the rest whether one engages in fx/swaps/cfds/forwards on a pair or not.
- fauigerzigerk 8y agoAbsolutely, but if an institution is taking some form of deposit in euros and promises to make predictable payments in euros then being long euros is not a directional bet for that institution. Of course the picture gets a little murkier once you start considering inflation caused by exchange rate fluctuations. But that is probably not the main concern in a large currency area with an independent central bank.
- cinquemb 8y agoWe must have different ideas of what fx fluctuations are, +/-500 bps over a decade sure… not +/-500bps on -30% decline line over a decade vs a major pair…