German Bund Yield Simulation: Inverted Yields, Negative Rates, and Future Probabilities
Inverted Yields
Many economists believe that a downward-sloping yield curve is a strong indicator of future recessions. The simulation suggests that the probability of an inverted yield curve (where short-term rates are higher than long-term rates) is likely to reach a peak of 71.4% in October 2024.
Negative Rates
The simulation also shows that there is a 21.4% probability that 3-month bill rates will become negative by December 2053. This highlights the potential for further easing of monetary policy in the future.
Default Risk
A new table has been added to assess the default risk associated with mismatches between long-term assets (e.g., German Bunds) and short-term liabilities (e.g., deposits). The analysis shows that the default probability is significantly influenced by the ratio of equity to asset value.
Future Yield Probabilities
The simulation generates detailed probability distributions for both 3-month bill rates and 10-year Bund yields over the next ten years. The probability distribution for 3-month bill yields shows a high probability of staying within the 0% to 1% range. For 10-year Bund yields, the most likely range is from 1% to 2%.
Methodology
The simulation uses a maximum smoothness forward rate approach and incorporates historical yield curve shifts from 14 countries. The model considers 12 factors that drive yield movements and generates 100,000 random shocks to derive future yield curves.
Conclusion
This simulation provides valuable insights into the potential future path of German Bund yields. It highlights the likelihood of inverted yield curves, the possibility of negative rates, and the risks associated with interest rate mismatches. Investors can use this information to make informed investment decisions.
