Almost total bondholder wipeout
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When interest rates were super low, investors couldn’t get enough super long-dated bonds. And Austria was happy to supply them.
We’ve written before about Austria’s first century bond, due 2117. Issued with a coupon of 2.1 per cent, bondholders more than doubled their money in the first two and a half years of its life. But as yields rose, price came crashing down:
Keen readers will recall that the government tapped the century bond market again three years later, this time needing to attach only a teeny tiny 0.85 per cent coupon. That 2120 century bond now trades at thirty cents on the euro.
But even we had missed that there is at least one more Austrian centurion knocking around. It’s a €100mn private placement zero coupon century bond issued off the government’s European medium term note programme a few weeks ahead of the ‘second one’ (h/t Skyler Weinand):
We don’t know how much it has ever traded, if at all. But Bloomberg provides pricing data, and it looks legit:
To give a sense as to quite how much of an outlier this bond is in terms of interest rate risk, we’ve redrawn Austria’s sovereign yield curve with modified duration rather than maturity on the x-axis:
Modified duration is a measure that bond-types use to think about the first-order relationship between a bond’s yield and its price. Sure, we all learned in FTAV bond boot camp why (and how) rising bond yields mean falling prices. But modified duration is a handy measure telling us how much of a price fall (or rise) will come from a given move higher (or lower) in yields.
You can see that the 2117 century bond has a modified duration of around 28 years. This is less than the 32 year duration number attached to the benchmark 50 year bond, despite the century bond maturing a full 46 years after the 50 year bond. Why? Because the century bond’s coupon is three times bigger than the 50 year benchmark bond’s coupon. And when you work out modified duration you take into account all the itty bitty coupon payments as well as the big principal payment that comes due at the end of the bond’s term.
But zero coupon bonds (and the clue here is in the name) have no coupons. All they have is the promise of a big principal payment a long long way away. And without coupons the 2120 zero century modified duration works out to be more than double the modified duration of the 2120 century 0.85 coupon bond.
All of which meant that when yields rose, the Austrian zero coupon century bond’s price was almost completely eviscerated:
We’ve added the price of the coupon-bearing 2120 Austrian bond to the chart so you can get a rough sense as to how much value the market gives to the principal payment (that is far away) versus the coupons (which are very small, but some of which are at least close by). By our calculation, if yields rise a further 125 basis points, the value of that far away principal payment will be smaller than a single one of those little coupons up close.
Alphaville doesn’t recall ever seeing a non-defaulted bond trade at a price so low. It’s the kind of performance that makes even UK pension funds who bought the 2073 gilt at issue look like geniuses.
But if you’ve heard of an even lower-priced (performing) bond that has once traded at par, do let us know in the comments.
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