Out of the Box: The Boom and the Bust
“It was the best of times, it was the worst of times, it was the age of wisdom, it was the age of foolishness, it was the epoch of belief, it was the epoch of incredulity, it was the season of light, it was the season of darkness, it was the spring of hope, it was the winter of despair. We had everything before us, we had nothing before us, we were all going direct to Heaven, we were all going direct the other way…”
-Charles Dickens, A Tale of Two Cities
What is clear to me, in our present moment in the financial markets, is that we are in both spaces at once. For borrowers, we are in the “season of light” with borrowing costs being the best in decades. For some borrowers, who are getting money at negative yields, they are in the best position ever, that would be “Ever,” in the thousands of years of recorded history. The world currently has $17 trillion in negatively yielding debt.
Who ever imagined that lenders would pay borrowers for the privilege of handing them money? If someone would have previously suggested that this phenomenon would take place the rest of us would have thought him bonkers, or drunk, or incredibly high, on some unknown substance. Yet, here we are, and the world has gone topsy-turvy.
Last week we set a record. There were new deals, in Corporate Bonds, that totaled $140 billion and the deal flow, of a month, occurred in just one week. The debt binge was led by investment-grade companies in the United States where $72 billion was raised across 45 deals. Bond funds that buy U.S. investment-grade debt have seen inflows of $167 billion so far this year, already surpassing their inflows for the whole of 2018, which totaled $102 billion.
You may wonder what is causing all of this and I will tell you. It is the nations of the European Union. Yes, the Bank of Japan has a balance sheet larger than the country of Japan. Yes, the Swiss National Bank has manipulated it debt market so that they have the lowest yields in the world. However, they are just small pieces of the pie and it is the governments of the EU that are instructing the European Central Bank so print money, from nothing but “Pixie Dust,” and then buy their sovereign and corporate debt so that the vast majority of the debt across the Eurozone now has a “Minus Sign,” in front of the yield.
With America’s 2-year Treasury at 1.54%:
|NATION||TWO YEAR YIELD|
*Data according to Bloomberg
With the Fed lowering rates, without the Fed lowering rates, it is my opinion that American yields are heading lower as we are virtually the last man standing, of any major market, with positive yields. Talk to almost any international money manager and you will find that European money is rapidly finding its way across the Pond. Soon, there will be no positive yields left anywhere and, at present levels, you are just seeing the tip of the iceberg, in my estimation, of all sorts of new corporate deals. Investment Grade or High Yield and everyone is beginning to gear up to re-finance, tender, re-negotiate bank loans, call what can be called, as we have entered a “Borrower’s Paradise.”
This is also a boom time for individual borrowers as mortgage rates drop, equity loans fall, margin rates decline, and Nirvana is raining down from Heaven. With the Fed likely to do a “something,” at their next meeting, this experience will widen and continue. First, however, we have the ECB’s next meeting and announcement on September 12 and I expect a broadening of their Quantitative Easing program and a decline in their bank lending rate. The nations of the European Union cannot afford their current budgets, it is as simple as that, and so they have mandated their central bank, who has no “Independence,” to keep lowering rates as a better option, politically and economically, than raising taxes or selling off assets. They have gone down a “Rabbit Hole” that will take decades, if ever, to get out of, in my opinion.
It is “Wonderland!”
For fixed-income investors, we are in the “season of darkness” with no yields, or negative yields, fanned out across the planet and the cries for, “Help,” have only just begun, in my estimation. The “Boom” for borrowers is the “Bust” for those that live off of their cash flows. This includes retirees, seniors, insurance companies, money managers, banks, mortgage companies, and any other individuals, or corporations, that live off of their incomes.
In the first instance it will be helpful for the equity markets, and the Real Estate markets but, as we approach Zero yields, lower rates won’t move the needle anymore and then I expect either a stand-still, the better alternative, or a reversal, which could be painful, in these markets. There is also a price, to be paid, that I foresee coming in the currency markets, as the negatively yielding debt finally wakes up people to the realities of various economies. “Currency Wars” are on the way, in my view, and it will be a global event as the
United States and the EU and China scramble for position.
Wonderland may have its “Tea Parties” but don’t forget the “Off With Their Heads” moments either.
Mark J. Grant
Chief Global Strategist, Fixed Income
B. Riley FBR Inc.
Information herein is for general use; is not unbiased/impartial; is current at publication date, subject to change; may be from third parties; and may not be accurate or complete. Opinions are the Author’s, not B. Riley FBR, Inc., or their respective affiliates or subsidiaries. This is not a research report or solicitation or recommendation to buy/sell the subject securities. Investment factors are not fully addressed herein. B. Riley FBR Inc. and their affiliates may have a proprietary position in the subject securities. Redistribution/reproduction of this material is prohibited. See additional disclosures at: http://brileyfbr.com/legal/legal_disclosures