Negative yields for German short term debt

Germany appears to have had a successful auction of six-month debt on Monday.

That said, there is a caveat. The auction for €3.9bn worth of paper achieved a bid-to-cover ratio of 1.8 versus a previous bid-to-cover of 3.8. The average yield was anegative 0.0122 per cent — a bit of an auction first.

Interestingly, it comes to FT Alphaville’s attention (H/T Gustavo Baratta) that this may be related to the fact that the Bundesbank has made a small change to how German bund auctions are conducted. According to the central bank, as of Monday it finally became possible to submit bids in price terms rather than yield, opening the door to negative yield bidding.

And it seems traders did not waste time in making that possibility a reality.

As the Buba stated:

Starting with the auction on 9 January 2012 there will be an alteration of the bidding rules in the Bund Bidding System (BBS) from yield to price bid submission in the case of Bubills. It is allowed to submit price bids with prices below 100, at par or above 100. Through the submission of price bids with prices above 100 it is possible to submit price bids reflecting negative yields.

The price bids must be expressed as full 0.00005 percentage points. Bids must be for a par value of not less than € 1 million or an integral multiple thereof. It is possible to make non-competitive bids and to submit several bids at different prices. Yield bids will no longer be considered.

This we would say is quite something.

For one thing, with bubills regularly trading at negative yields in the secondary market already, there was an obvious discrepancy emerging between primary markets and secondary markets.

If auction mechanics prevented negative yields from being achieved, especially in short duration markets, bids exploiting these dynamics at auction were potentially becoming a bit of an issue.

After all, why not pick up short-term German debt at a guaranteed positive yield at auction to then sell into the secondary market at a negative yield?

Is this why short-dated bill auctions began receiving so much more interest thanlonger duration bund auctions?

Meanwhile, the fact that there was still a sizeable cover  at a negative yield–  of 1.8 no less — shows you to what degree the market is prepared to suffer capital erosion for the sake of exposure to “safe” assets, irrespective of primary/secondary arbitrage opportunities.

That, we would say, brings Bill Gross’ paranormal regime and the concept of timedepreciation of money distinctly to the forefront.