Interest rates will go down. What will banks do?

Unconventional policies of Central banks had to pull the economy out of stagnation, but ridiculously increased prices of debt securities. Why do investors lend money to issuers, although it may entail a partial loss of capital?

A profit of 7-8%  per year, higher than in the stock market – so it looked in the last few years from the point of view of an investor who has units of a good member of the Fund invested in bonds of developed countries. The last five years of this kind of entities operating in the Polish market, received an average of about 5 percent per year. This is despite the fact that interest rates on bonds of the most reliable issuers tend to zero, and the new brought with a negative profit, which means holding them unto the day of redemption, investors must reckon with a loss of capital.

For example, at the auction of 3-year bonds, held recently by the Spanish government – their owners, which in 2019 will represent them for ransom, get 98 euros of every 100 euros invested. Probably some of them believe that a price of debt securities will continue to grow and will be able to sell them on the secondary market is more expensive than bought from the Spanish government. The growth of courses of securities already in circulation, but not all the smaller interest from them, is the main source of profit in the bond market.

The answer to the question of why rates of bonds, although in the case of many countries are the highest in history, continue to grow, lies primarily in the policies of major Central banks. One of the leading ideas on the bailout of the global economy after lowering interest rates to zero – is the redemption of the market bonds, especially those issued by governments. Thus reducing also long-term interest rates, Central banks have sought, on the one hand, to alleviate the debts of rural households in highly developed countries, and with another-to stimulate companies to invest. Thus, the U.S. Federal reserve, which is the first in 2008, beginning on a large scale to buy up bonds and have done this kind of activity in less than two years ago, became the owner of more than 20 percent of debt securities of the government. The Bank of Japan is buying government bonds from 2013 and was removed from the market for one third of public debt. The European Central Bank launched a massive bond purchase later, just in March 2015, but has already managed to buy almost 8 percent of debt securities issued by Euro-zone States, including 15 percent bonds of Germany. At the same time after 2011, Europe's debt crisis broke out, many States lost the highest credit rating. According to estimates by Bank of America shows that the proportion of Treasury bonds that the organization takes into account when calculating bond indices with one of the three highest ratings of credit cards decreased from 84 to 51 percent.

These two trends have led to a situation in which the amount of debt securities of the highest quality available on the market has declined significantly. At the same time, the USA and the Eurozone are on track to reduce the fiscal deficit, which means that the sale of new securities, at least in the near future will be limited. On the other hand, the demand is driven by investors willing to buy debt of countries with high credit standing, regardless of income, which give. In this group are, for example, pension funds or insurance companies. Bonds of developed countries will bought also by Central banks, which, relying on such securities, to build its foreign exchange reserves.

You might think, if the bond prices, which, on the contrary, correlate with their profitability can be even higher. In other words, would the investors on even worse terms of borrowing money. A lot depends of the future policy of the Central banks. Although its purpose was the restoration of sustainable economic growth, but in this matter neither in the Eurozone nor Japan has managed to achieve success. Despite the fact that the part of economists considers that the maintenance of abnormally low interest rates is even bad for the economy because it allows the market to hold here underperforming companies and it also harm the banking sector.