We have been talking about this for a while (28/01/09, 11/03/09, 23/04/09), it was a popular topic on this blog in 2009 but well covered and for that reason we have not revisited it much, but the alignment of the stars warrants a look at the symptoms of the disease because now they are ever more present than before. At this point we can see a clearer path; which is still leading to a bond bust destination.
It has also becoming a mainstream topic, recently it showed up in an article titled ‘Currency, the weapon of choice in a world of lower demand‘.
If something can’t happen it won’t, and what can’t happen is a world in which we see century bonds (bonds with 100yr terms) becoming commonplace, they will probably be (as is the benefit with all hindsight) the poster-boy of the time when the bond market was in full insanity. To give an Irish context we can all relate to: property prices mid 2006, that’s where bonds are now.
Investors are not stupid, it could also be the case that we see a world of deflation and they will be able to sell these centuries at a profit, but when you consider the counter trends it doesn’t scream ‘deflation’ to the same degree.
Take a look at some of the offerings (signs):
Goldman Sachs 50yr bond issuance-longest bond issued in their history.
Mexico issued at century and it cleared. Note: ‘cleared’, and this is from the same country that suffered two currency crises and one sovereign default in the last 30 years!
Norfolk Southern – “NEW YORK (Dow Jones)–Norfolk Southern Corp.’s (NSC) reopening of its 100-year bond, first issued in March 2005, has launched at 5.95%, inside price talk of 6%, according to a person familiar with the sale. The sale has also been upsized to $250 million from original guidance of around $100 million”. So they not only issued a century, but they more than doubled the debt issued and it was ALL bought!
Rabobank also issued a 100yr bond. It’s great that they have a triple-A rating (today) but in 100 years will that still be the case? This is a bank let us not forget, and anybody who can see 100yrs out in banking is either a liar or deluded.
They said on their company site that “Until now only a few rail roads and power stations have conducted a bond issue of this type. It’s a real confirmation of the strength of the credit, and obviously, it’s borrowing 100-year money at historically low levels,” I’d go a step in the other direction – it’s a sign that investors are yield hungry and making mistakes, the market doesn’t lie but it equally doesn’t create winners only – time will tell but when a bank issues and clears a 100yr bond it means something isn’t right.
TIPS trading negative 0.55% – this is a bond that has inflation protection built in, it is a proxy for inflation expectation in the same way that gold is (more on that later). People are literally willing to buy in at a loss in order to get that insurance. That is a sure fire sign that inflation is expected
History is interesting, in 1910 nobody was backing the Wright brothers, they were backing the makers of airships, yes, airships, the same craft which spawned such maxims as ‘lead balloon’ and ‘it’ll fly like a lead Zeppelin’, and some awful tragedies as well such as the Hindeburg Disaster, a lot can change in a year, never mind 100 years! The hunt for yield is relentless, but at the same time you have these inflation indicators screaming out (TIPs & Gold) so somebody somewhere is going to get badly burned.
Inflation? Yes, it will be artificial, because QE will bring it about, the latest approach seems to be a currency play-ground tactic along the lines of ‘if you print a trillion then I’LL print a trillion too!’ . Sad but true, and it is being done both as a competition and for competition.
Gold, yes, the boring metal of a decade ago that is now back in the halcyon vogue it enjoyed in the late 70’s. Will it last (this time)? Comfortably trading over $1,300 the difference now versus then is the structural movement of the metal. It isn’t to say this trend can’t die, but it is a slower build up, and broadly in line with the massive increase in money supply that has been a hallmark of the last thirty years.
When the bond market falls it will fall ugly, even on the municipal bond front, the stalwart of private investors, there is trouble brewing, recently Meredith Whitney authored a 600 page report titled “The Tragedy of the Commons” stating “Municipalities receive one-third of their revenue from the states. If the states hold back that money for their own stricken budgets, towns and cities won’t have the funds to make their interest payments. “It has to happen,” says Whitney. “The states will secure their own shortfalls, and leave the cities to fend for themselves.” It’s all about inter-dependency, she says, with the federal government aiding the states, and the states funding the last and most vulnerable link, the municipalities”.
Combine that forecast with the fact that the insurers who (apparently) back it up are no longer high investment grade material, The public finance market no longer has a triple-A rated bond insurer. Bond Buyer lead with this story yesterday – “Standard & Poor’s on Monday downgraded Assured Guaranty Ltd.’s two insurer platforms to AA-plus with a stable outlook from AAA with a negative outlook. Stock in the parent company fell 8.3% to $19.52, but response in the municipal market was muted”.
So if things go wrong, their assurance is about as good as the mono-liners who backed sub-prime mortgages! Everything is falling into place for a proper bond market blow out. It doesn’t have to happen, but when all of the dominoes are in place it would be stranger if it didn’t.