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Making Sense of Negative Interest Rates in Europe

You may have heard stories recently about European banks paying interest to mortgage borrowers (i.e. a loan rate below zero). While this reversal in the typical bank-borrower relationship is still unusual in Europe, investors buying European bonds with negative yields is actually wide-spread.

A full 34% of government bonds in continental Europe trade at negative yields, which means that bond holders have to pay interest to the lender as long as they hold the bonds. From an investment standpoint, it sounds like a very unattractive position.5.11.15

Why would this be the case? There are many factors, but two key reasons are one, central banks are keeping short-term interest rates at almost zero, and two, central banks in Europe and Japan are actively buying bonds in the market place. These central bank purchases are helping to drive up demand to the point where yields already near zero are turning negative.

U.S. investors should remain cautious about bonds with negative yields. Investors seeking diversification can find value in overseas stocks, which are more attractively priced and can benefit as investors normally looking to buy international bonds find negative yields uninviting.

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