QE, falling interest rates mean MNCs now get paid to borrow

Paris

GERMANY and France have been able to borrow at negative rates for some time, meaning investors are paying to loan Berlin and Paris money, but with interest rates falling further as the ECB gears up to launch quantitative easing, multinationals are also now getting paid to borrow.

The phenomenon is a result of investors seeking a safe place to park their money in debt markets where interest rates have been dragged down to ultra-low levels.

The need for low-risk instruments, and with little concern about inflation, has seen investors actually push the interest rate into negative territory for short-term German and French government bonds.

Swiss food giant Nestle was the first to see the interest rates on its euro-denominated debt fall into negative territory when the yields on bonds that expire in nearly two years fell below zero.

"It is sort of a domino effect. If sovereign bonds are paying less, then this ricochets and those of corporations will pay less and finally investors will enter uncharted territory," said Christophe Quesnel, a trader at Oddo Securities, which specialises in corporate debt.

Said analysts at Royal Bank of Scotland: "Among the distortions caused by low interest rates and QE (quantitative easing) is that some governments, corporates and households are now getting paid to increase debt. For the first time, high-rated corporate bonds are also trading at negative yields (Nestle), and many are near-zero (Shell, Novartis, Air Liquide, BASF, Sanofi, etc)."

The ECB has brought its main interest rate to just 0.5 per cent as it seeks to boost growth in the eurozone by lowering borrowing costs.

With the eurozone now hit by a bout of deflation thanks to falling oil prices, the ECB is about to launch QE in which it will buy up 60 billion euros (S$92 billion) of sovereign and corporate bonds per month. This will have the effect of pushing down yields, or the rate of return to investors, even further.

But why would investors accept paying to loan money to someone? "It's the effect of fear" about the delicate situation in Europe, said Juan Valencia, a credit specialist at Societe Generale CIB. "Investors are putting their money in the safest instruments, as they aren't sure about getting their money back with other investments. Thus they are paying for the 'privilege' to loan to the most solid states and corporations," he said.

The ECB's QE programme, which will buy up over a trillion euros in bonds, will have a massive impact on the euro-denominated debt market which totals just 1.5 trillion euros.

Mr Valencia said 900 billion euros of that debt already yields under one per cent, and 400 billion, less than 0.50 per cent. Some investors, such as pension funds and insurance firms, are required to place a certain percentage of their funds into bonds issued by countries and companies with secure credit ratings.

With the ECB entering the market, finding good returns in safe investments will get even harder. "There is a compression process underway and everything is heading for zero," said Mr Valencia. Mr Quesnel said: "Investors are thus being pushed to choose bonds of companies a little less safe or frankly to change assets to get a better return."

For companies "it is excellent news", said Mr Valencia, although he warned "just because money is practically free doesn't mean that some companies won't find themselves in complicated situations".

Mr Quesnel said the drop in borrowing costs shows "the ECB has done its job" and now "we need growth to pick up and unemployment fall so people consume." AFP