Blain’s Morning Porridge – March 8th 2023: International Women’s Day and The Conundrum at the Heart of the Bond Market..
“Women of the world take over, If you don’t the world will come to an end..”
This morning – Make the world a better place by enabling women on International Women’s Day! And, Bond Markets need to a rethink.
Women of the World unite! Its International Women’s Day! (If I don’t say something positive She-Who-Is-Mrs-Blain and young Ms-Blain will “chastise” the living daylights out of me!)
UK child-care costs are the highest on the planet. As a result we squander some of the best minds and skill sets because families can’t get child-care at affordable prices. Its women who generally give up their careers to care for the kids. They could have been changing the future path of the economy, but see their careers and gifts to society squandered. 100 years after the suffragettes its extraordinary we are still not enabling women to fulfil their economic potential! We’d be far better investing in free child-care than in practically any other policy to drive the economy.
Sir Kier – are you listening? (Because the Tories won’t be…)
Recently I read Max Hastings excellent book Abyss about the Cuba Missile Crisis. I don’t remember it well – I was in my pram at the time, but my mum told me how terrified she was. What is really, really scary is just how willing some in the US military – especially certain Air Force officers – were to go to a full war. Reading through some of the recent scary stuff on US wires and periodicals, its clear there is an increasingly hawkish mood re the “inevitability” of War with China.
I can’t help but think of August 1914. If only some woman had been able to interrupt the slide towards war… and tell the boys to stop their stupid squabbling… Maybe that’s a porridge for another day….
Meanwhile… back in the markets…
Fed Head Jerome Powell is warning of rate hikes still to come. Front pages tell us Blackrock and others now think the US Fed Funds rate could go to 6%. (Blackrock’s CIO said: “the Fed will have to bring the Funds rate to 6% and keep it there for an extended period to slow the economy and get inflation down to near 2%.”) I read some bank research saying an ongoing series of multiple 25 bp hikes is potentially on the cards till the economy cracks. Yesterday US 2-years T-Bills went over 5%. Yet….
I read a remarkable note yesterday suggesting rising US treasury yields means US bonds are a screaming buy…. on the basis they will come down again. Meanwhile, yield curve inversion – which traditionally signals a recession around the corner – is back at elevated levels.
It’s fascinating how market participants now think about bonds, inflation and interest rates. 14 years of monetary experimentation and ulta-low rate distortions has changed the fundamentals of bond market behaviour.
Back in the day, I learnt – the hard way – that bond yields could respond aggressively to inflation, currency moves and economic inputs. In order to achieve price stability, Central Banks would not hesitate to hoik rates aggressively. Policy changed during the Global Financial Crisis of 2008 as the fragility of the global financial system was exposed. Perhaps central banks were over- protective – ignoring the fundamental right of the capitalist system is the right to fail. It’s a learning experience….
The failure of Lehman Brothers scared the central banks, and they concluded such failure was just too perilous and consequential. Central banks acted to stabilise rates at ultra-low levels in order to boost post-crisis recovery – but it all became about the stabilisation of markets.
That was maybe, with the benefit of hindsight, an even bigger mistake. It enabled the tail to wag the dog!
QE and ZIRP (quantitative easing and Zero Interest Rate Policy) boosted markets. The consequences – which I have written about so many times – were immediate: the massive inflation of financial assets. It’s the major reason equity prices have risen 7 times faster than the underlying global economy has grown since 2008.
Today’s bond traders have known little else but market friendly easy money, central bank puts and 2% inflation targets. They persuaded themselves negative interest rates made sense and were investible. Bond market psychology clearly changed. It has to change again – and relearn some fundamentals.
Conventional wisdom holds the current yield curve inversion is pointing towards an “apocalyptic” depression is coming, but the reality is a very strong labour market, and an economy set to make significant productivity gains as wave 4 of the tech revolution (AI) sweeps over the economy. The bond market is now scaring itself – again – about further rate hikes triggering a crash landing.
However, there is another perspective to take, and that’s the structure of the bond investment market. Factor that into you bond assessement. The market remains distorted.
Regulations and investment mandates mean most big funds are forced to invest in bonds to meet their future liabilities, pass tick box regulatory checks, and demonstrate to their savers/investors they are buying all the right CSR/ESG etc etc instruments because they are beating the indices. Meanwhile they have to balance the equity risks on their portfolios vs the risk-free rates notionally contained in their government bond portfolios.
One of my colleagues was at a meeting with a major bond investor yesterday. Being an equity guy he asked a simple question.. (bond guys tend not to ask simple questions for fear of being thought of as simple equity guys). He asked: Why aren’t you buying higher yielding short-dated bonds instead of the long-dated bonds you are buying? If you buy the “long-end” you miss a “free-lunch” for buying higher yielding shorter dated bonds..
The answer is simple – it’s the “mandate stupid.”
Effectively the rules mean the big investors have to buy long dated bonds, and they need to keep buying more and more of them to put their cash to work in an investment world where there is no shortage of liquidity, but still a massive scarcity of investible opportunities at prices that match their relative risk… And they keep buying the long end even though it makes little sense because the indices they have to beat are composed of these long-end assets.
The reality is.. as it so often is in markets.. the big beasts consume themselves, while the smarter more nimble fund managers can thrive…
No time for five things this morning…
Out of time and back to the day job…
Bill Blain
Strategist – Shard Capital
Definitely agree about the short-dated bonds question. Why take the duration risk if you don’t need to ….. of course there are also some nice opportunities in FRNs ….. particularly AAA-BBB ABS/CLO floaters given where LIBOR/SOFR/SONIA is these days ……
Re War: The Chinese seem to be preparing for war/sanctions as well by making it very difficult for large investors to get their money out. Not good.
International Women’s Day is a Soviet holiday, female leaders are more likely to wage war, yesterday you said “anyone who dares to question the bitter reality of what’s actually going on with the UK economy” accuses you of “left-wing bias” but you routinely call people who disagree with any aspect of the public narrative far right! I don’t mind the polemics but combined with heavy censorship it gets a bit much.
OK – celebrating International women’s day by urging better child care provision in the UK to free up highly skilled workers into an economy suffering labour bottlenecks makes me a communist stooge.
Damn… it’s fair cop!
On your comment about gung-ho Generals and military, I watched an interesting documentary last night: I hadn’t realised that General Pershing had not wanted an armistice in WWI and wanted to push on into Germany. As a result he engaged his troops on the Western Front right up to the Eleventh hour. The consequence was 40,000 dead on the last day of the war because he was frustrated by the politicians. You are right to fear the military…..
40k dead on 11th Nov 1918? That sounds very high..
British causulties were 60k on first day of Somme, less than 20k dead, the bloodiest day in British military history.
I think the figure was across the whole Western Front and including American, British, French and German. Apparently Pershing ordered the taking of villages at great cost of lives that they could have walked into a few days later..
As the late Monarch so aptly stated “recollections may vary”. That said had Pershing carried out his plan it would have put paid the German myth that they were never defeated but stabbed in the back and quite likely prevented a second greater war in 20 years time.