Managing NZ fixed Income is difficult......

but it's nothing like the issues in Europe.  Currently 40% of European government bonds are trading with a negative yield.

Inflation in Europe is running at +0.1% yoy - so that makes the real yield on 40% of government debt in Europe less than zero.  I struggle to see any reason why an investor (as opposed to a short term parker of hot money) would see value in doing that.  Maybe it can be rationally explained by this theory:

This next graph shows the recent trends in Europe CPI:

So while inflation has been trending down significantly and toying with deflation (thus the ECB potentially ramping up QE), forward inflationary expectations aren't that bad.  In many of the big liquid markets overseas, there are numerous ways to estimate what inflation might be in the future.  One of the cleanest is the concept of inflation swaps where two parties can trade their expectation for future inflation.  One party essentially goes "long inflation" and is taking the view that inflation will be at or higher than the rate they agree, the other part is taking the view that inflation of the trade period will on average be lower.  In Europe theier is a very liquid inflation swap market with terms traded from 1 to 30 years.  

The chart below shows the history (and current price) for the 5 year inflation swap.  Market participants believe that the average inflation rate over the next 5 years will be 1.0475% per annum.  Recall that we are currently 0.1% and expect an average of 1.05% over 5 years.  In other words, not expecting deflation.  That makes negative yield government bonds a little on the expensive side.......

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