Out of the Box: Every Picture Tells a Story
And if they had the words, I could tell to you
To help you on the way down the road
I couldn’t quote you no Dickens, Shelley or Keats
‘Cause it’s all been said before
Make the best out of the bad just laugh it off
You didn’t have to come here anyway
So remember, every picture tells a story, don’t it?
The picture, that you get, from many business publications, is that negative yields are all caused by investors. Balderdash! I am not a buyer of this viewpoint. Not at all.
The Financial Times stated yesterday, “The best explanation for the dramatic decline in high-grade government and corporate bond yields worldwide, along with the surge in negative-yielding debt, is that investors are rationally responding to the rising risk of a deflationary global recession. Business confidence and investment are being eroded by the uncertain ebb and flow of the US-China trade war, the threat of US tariffs on autos and Brexit, along with the slowing Chinese economy that has been the bedrock of growth for many global (and especially European) manufacturers.”
Nope, nope, nope. In my humble opinion, the reason we have almost $17 trillion in negatively yielding debt is because Switzerland, Japan, and the nations of the European Union, cannot afford their budgets, and their social programs and, consequently, they mandated their central banks to produce more “Money from Nothing but Keystrokes” and then use it to buy both sovereign and corporate debt. It is a scam, a flim-flam, a sham, where these governments told their central banks exactly what to do. Please remember that all of these central banks, unlike the Fed, have absolutely no “Independence,” at all.
These nations learned the lessons from the Great Recession of 2008/2009 and they followed suit, to continue the apparatus, well past the need to save the financial system. The use of “Pixie Dust Money” continues right up until this day and I fully expect more of it to be created, when the European Central Bank shines in the spotlight, on September 12. Berlin, and Brussels, and the rest, of course, don’t want us figuring this out but I am happy to go head-to-head with the politicians in Europe. They will never admit all of this, of course, but I am happy to peer through the “Looking Glass” and expose what is really going on.
Once you and I, have figured this out, the problem for investors, and the Fed, and the American government, becomes how to respond to it. There is a wide variety of “Collateral Damage,” from heading down the “Negative Yield Rabbit Hole” and ending up in Wonderland.
Meeting Alice is fine. Dealing with the European “Mad Hatters” is something else again.
“But I don’t want to go among mad people,” Alice remarked.
“Oh, you can’t help that,” said the Cat: “we’re all mad here. I’m mad. You’re mad.”
“How do you know I’m mad?” said Alice.
“You must be,” said the Cat, “or you wouldn’t have come here.”
-Louis Carroll, Wonderland
For the Fed, all politics aside, the problem is acute. It is not a problem that they have ever had to deal with before and I politely grant them space to ponder because of this. The Fed is America’s central bank and they are specifically targeted with protecting American interests, and not the interests of the World. However, how you respond to what Japan and the Europeans are doing provides, unquestionably, some difficult choices.
I think we must lower our interest rates to just this side of Zero, the positive side of Zero, and not one penny more. Let the Europeans try to climb out of their Rabbit Hole, we don’t need to follow them down that slippery slope where only bottles of fantasy, and poison, await those who have taken the leap. I do not think that we should create more of our own “Pixie Dust Money,” as part of our response, to the negative yielding securities, either.
For the American government the issue of our currency also comes into play. I think the Europeans will find out soon enough, that they are causing Deflation. In gaming the system, they are also creating other problems that will come back to haunt them, over time. If there is one thing I have learned, from watching Greece, and Italy, it is that governments, unlike corporations, can drag things out for a considerable period of time by utilizing money and then public deception. Don’t expect any admissions, and don’t expect anything to crack, in the immediate future.
The process of heading to Zero, you might also wish to note, is a two-step one. In the first instance, lowering rates is a giant help for borrowers and it buoys assets in a whole range of asset classes. Real Estate, margin rates, REIT’s, mortgage rates, corporate balance sheets, are some of these, just to name a few. However, in the second instance, of this process, when rates are just above Zero, lowered rates will no longer help. It will be just then, in my opinion, that reversals take place as lowered interest rates run out of steam, to move the economy, and the markets, along.
It is also here that investors, of almost every class, may get burned. When you can no longer get any yield on your investments, and the “appreciation plays” get tricky, then retirees, and savers, and insurance companies, and mortgage companies, and investment banks are all directly in the line of fire, as they can no longer get any real return.
The Fed, and our government, are in a very precarious position, as caused by the nations of Europe and Japan, and all we can hope is that they choose wisely. We have been attacked by the “Madding Crowd.” We are under siege.
Place your bets.
Mark J. Grant
Chief Global Strategist, Fixed Income
B. Riley FBR Inc.
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