Swiss bonds are the new Swiss banks.
Both, you see, are super-safe places to park your money, so much so that people are willing to pay to keep it there. Now think about this for a minute. It shouldn't be true. Borrowers usually have to pay lenders, not the other way around, to borrow money. That's something we like to call "interest." But it's not true in the topsy-turvy world we live in today, where investors are lining up to pay the Swiss government for the privilege of lending it money for ten years. Or, in finance-speak, bond yields are negative.
This isn't really new, though, so much as Europe's new normal. As the Financial Times points out, €1.2 trillion, or $1.4 trillion, of eurozone debt has negative yields that mean lenders are paying borrowers. But what it is new is just how long people are willing to pay governments to borrow. At first, they only did so for 1-or-2-year bonds. Then, in a sign of how dysfunctional Europe's economy still is, investors started paying Germany to borrow for five or six years. But now, as you can see above, Switzerland has beaten everyone else to be the first to have negative ten year borrowing costs, at -0.2 percent. And by "first," I mean in history. This has never happened before.
Okay, let's get to the obvious question: why would you ever pay the government to borrow from you? Or, to put it in slightly starker terms, why would you give the government $100 today and only ask for $99 back tomorrow (or ten years from now, as the case may be)? Well, usually it's because there's a financial crisis going on. You don't know which banks will still be around, but you do know the government will. So you'd rather take a guaranteed 1 percent loss by putting your money in a Treasury bond with a negative interest rate than risk a much, much bigger one by putting it in a bank that might go under. Government bonds, in other words, are the electronic mattress you stuff your money into, even if you have to pay for it, when nothing else looks safe.
That's not what's happening in Switzerland, though. There's no banking crisis, and, besides, investors aren't just pushing short-term yields into negative territory, like they do in a panic, but long-term ones, too. That brings us to question number two, which is a slight variation on the first: why would you ever pay the government to borrow from you for ten years time? Well, the question answers itself, even if it doesn't seem to make sense: because you still think you'll make money. How could that be? Because you think the money you'll get paid back with tomorrow will be worth more than the money you're paying them with today.
And that brings us back to Switzerland. It's been in and barely out of deflation, aka falling prices, ever since Lehmangeddon. That's because Switzerland, which still has its own currency, has been a safe haven throughout the euro crisis. Investors have moved their money into Swiss francs that won't get devalued if the common currency breaks apart, and out of, say, Italian euros that might. The problem, though, is that this flood of money pushed up the value of the Swiss franc so much, over 40 percent in 2011, that its exporters were becoming uncompetitive and its overall prices were starting to fall. Until, that is, its central bank remembered that it's easy to push down the value of your currency if you can print infinite amounts of it. Specifically, the Swiss National Bank (SNB) said it would buy as many euros with newly-printed Swiss francs as it took to keep the exchange rate at 1.2 Swiss francs per euro. Just saying they'd do whatever it took was all it took.
Then Switzerland changed its mind. The SNB, you see, shocked markets last week by announcing it would stop holding the value of its currency down, because, well, it's not clear why. Nonetheless, they still did it, and the Swiss franc is up 20 percent against the euro. This doesn't make a lot of sense, because now Switzerland has the same problem it did before: too strong a currency pushing inflation too low. Indeed, prices were already falling 0.3 percent before it decided to let the Swiss franc shoot up. So now prices should start to fall a lot faster—which, as you can above, is when bond yields have, too.
Now there are two ways to think about this. The most intuitive one is that falling prices mean the Swiss franc will be worth more tomorrow than it is today. And that changes everything. You can lose money and still make money, as long as its value goes up a lot. Say, for example, that I lend you $100 for ten years at a -1 percent interest rate. That means I owe you a dollar every year, and then, at the end, you pay me my $100 back. Well, if prices fall so much that $100 today is like $120 a decade from now, I'll still come out ahead. That, more or less, is what's happening in Switzerland.
The other way to think about it is to ask where long-term interest rates come from. The answer is they're the average of what markets expect short-term interest rates will be, plus a little extra to make up for the fact that rates might unexpectedly go up. The longer the bond, the bigger this extra bit is—which is why it's so mind-blowing that Switzerland's 10-year bond is -0.2 percent. The market is saying that rates, which have already been cut to -0.75 percent, will average less than zero for the next decade, because that's where they'll need to be to keep prices from falling any further. Not only that, though, but they don't think there's any chance there will be any surprise inflation, otherwise they'd ask for something more. Markets, in other words, are about as confident as it gets that Switzerland will stay more stuck in a deflationary trap until at least 2025, and that unpegging its currency has made this a lot worse.
Swiss bonds might not be as secret as Swiss banks, but they're just as safe, and they might pay you pretty well even if you're paying them.