Implications of negative global interest rates

The yield of a country’s 10-year government bond provides important insight into its economic prospects. Above-average yields on the debt of reliable borrowers typically represent an expectation of above-average inflation and strong gross domestic product (GDP) growth. Very low yields imply the opposite.

Twenty years ago, over half of the global bond market boasted yields in excess of 5%. Today, only 3% are still able to offer those kinds of yields, and as much as a quarter of the global bond market is offering negative yields.

In Germany, yields are negative all the way from cash deposits to 30-year bonds. In Switzerland, negative yields extend all the way out to 50 years. The message from the bond market is clear – investors need to consider the implications of a prolonged period of low inflation and weak global growth.

Dividends will become increasingly sought-after. With cash and bonds offering investors very little in the way of yield, investors are likely to turn to dividend-paying equities for income.

Prefer defensives over cyclicals. Companies which produce goods and services that consumers can’t go without have the ability to increase prices without sacrificing volumes, even when times are tough. As such, a low growth environment favours businesses operating in “defensive” industries (such as food, beverages and healthcare) over more cyclical companies.

Quality is key. A company’s brand, business model and balance sheet are all put to the test when economic growth is subdued.

Based on our experience, the businesses which tend to come out on top have the following qualities: 1 Size and scale.

2 Market-leading brands. 3 Geographic diversification. 4 Low debt levels.

5 High, free cash flow.

Coca-Cola, for instance, is the market leader in multiple nonalcoholic beverage categories, generates sales in 180-plus different countries, boasts a market cap of over $200 billion (R2 97s billion) and has an A1 credit rating – qualities which have helped underpin 57 consecutive dividend increases.

The investment implications of a prolonged period of low inflation and weak global growth suggests that the world’s best dividend-paying investments are likely to serve investors best in the years ahead.

Not only are the dividend yields of high-quality companies like Nestle and Coca-Cola significantly higher than bond yields, “defensive” products and strong balance sheets suggest they will continue to increase dividends despite tough conditions.

Reliable dividend growth and an acceptable yield should ensure inflation-beating returns.

Duggan Matthews is Chief Investment Officer at Marriott