Why Investors May Accept Negative Government Bond Yields
Summary
The document explains several reasons investors and financial institutions may hold government bonds with negative yields instead of keeping cash. For large cash balances, physical storage, insurance, and logistics can cost more than accepting a small negative return. Government securities may also reduce exposure to the default risk of a single bank or the broader banking sector, making them useful for diversifying counterparty risk.
The answers add that the bond’s value as repo collateral can lower funding costs, and that institutions may need securities for hedging, replication, market making, or regulatory asset requirements. Access to central bank deposit facilities also differs across institutions, so the overnight rate is not a universal cash alternative. These are possible explanations rather than a single pricing rule; the document does not quantify their relative importance or establish that every government bond is safer or more advantageous than cash in every circumstance.
Key ideas
- Physical cash storage and insurance can make a negative-yield bond comparatively attractive for large balances.
- Government bonds can diversify exposure to bank and banking-sector counterparty risk.
- Repo financing benefits can offset some or all of a bond’s negative yield.
- Institutions may hold securities for hedging, replication, market making, or regulatory requirements.
- Central bank deposit access and rates vary across institutions.
Tags
Full text
# Government bonds with negative yield # Government bonds with negative yield In the recent time-series of bonds issued by (for example) Germany, Austria and France we see an unfamiliar phenomenon: negative yields. This is mainly the issue on the short end of the yield curve. For a picture see: http://www.ecb.europa.eu/stats/money/yc/html/index.en.html My question is, why banks or possibly other companies are willing to pay a government for holding their money? Would it not make more sense to simply hold the cash instead? Stuffing cash under the mattress may be risky and costly for an individual but not for a financial institution. A bank may park money in an ECB account and get a minimal but positive overnight rate for doing so, right? ## Answer by SRKX (score 5, accepted) https://quant.stackexchange.com/a/4193 Taking the case of companies other than the bank, when you have a large amount of cash, you won't stock it in your backyard as there would be insurance and logistics costs that would cost you more than the negative government yield. I believe the main reason why people are willing to accept the negative yield is essentially for counterparty risk diversification reasons. Putting your money in a single bank makes you vulnerable to the default risk of that bank (and don't even think it doesn't exist). So you can diversify through several banks but you're still exposed to the overall banking sector risk. So, the next step is to diversify using government bonds, which are likely to be safer than banks. I've seen it used for foreign exchange trades where you don't want to take the risk of a bank for example. ## Answer by BlueTrin (score 3) https://quant.stackexchange.com/a/4192 By holding the bond, you can fund yourself cheaper with repos, so the fair comparison is to check that if you are still negative after taking in account the repo rate you save from the funding rate by posting collateral. In addition to that, as a bank you may have to hold the securities as a hedge/replication for another trade or you may have to hold a minimum of securities as part of a market making activities. There are as well many financial institutions which do not have access directly to the ECB, did you factor all of this in your analysis ? ## Answer by jeff m (score 0) https://quant.stackexchange.com/a/4189 Overnight and repo rates might be even less favorable when counterparty risk, and the hedging that goes with it, is considered. Strange world these days... ## Answer by user7056 (score 0) https://quant.stackexchange.com/a/4196 Cash is not unlimited. And, if everybody invested in cash while cash getting unlimited, in the end one is in a world filled with papers, which lose their value. Secondly, but now last, banks, governmental institutions etc are obliged by (inter)national agreements to keep a percentage of their assets in such type of sure assets (A1 assets as per Basel III definitions). And this percentage has been recently increased, on a background of governments scheduling a decrease in their debt/emmited bonds.
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