“May You Live in Interesting Times”

We’ve all heard the quote. Rumor suggests it’s an ancient Chinese ‘curse,’ but experts say that’s not true. According to Wikipedia, the closest Chinese expression translates to, “Better to be a dog in a peaceful time, than a human in a chaotic period.”

Uhhh…sure.  Makes sense.  Sort of.

But interesting times is where we find ourselves, nonetheless. Imagine a world where your home mortgage is tied to an ‘index’ that is negative. That’s right: negative.  And this is happening right now in Spain.

That index is the 1-year Euribor – the acronym for the “European interbank lending rate” – which according to the Bank of Spain ended February at a yield of –.008%.  The first negative reading in the history of the Euribor.

OK, let’s not get too excited. Sure the yield is negative. Barely. Not much different, really, than, say a .01% positive rate, right?  But if you’re the homeowner, it’s a whole lot better than, say, a 2% index – the reading as recently at 2012.

Take a look at this graph.  If you are a homeowner in, say, Spain, you can imagine how happy you’d be with a home loan tied to the 1-year Euribor.

1-Year Euribor Rate Chart

The downstream implications are interesting (there’s that word again!), however, for at least two reasons.

First, imagine you are the homeowner:  Party time!  According the the Wall Street Journal, 96% of home mortgages in Spain are variable, many tied to the 1-year Euribor. That same article in the WSJ reported per the ECB, Spanish bank mortgages had an average rate of 1.51% in January!  (New ‘home purchase’ loans have a fixed first year rate, which, per the ECB website was 1.78% in December of 2015.)

Imagine that:  a mortgage payment based on a 1.51% rate.  Great for the home owner…great for the Spanish housing market…but not so great for the Spanish banks, and certainly really, really bad for savers relying on interest income.

Second, remember, banks survive on the income generated by the ‘spread’ between their borrowing cost and their lending cost.  They borrow from you and me – deposits – and make a variety of loans.  For a number of years now, they’ve borrowed from us at near zero.  But as the Euribor declines (see the chart above), their interest spread shrinks.  And since banks are – so far – reluctant to ask us to pay the bank when we deposit our money, their spread falls even more when the Euribor yield goes negative.  Which is why many European banks are struggling right now.

Interesting times, indeed.

• Terry Liebman