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End of a Trend?

By Shlomo Maital

Bond

 

Bond. The name’s Bond.

No, not James Bond. Bond bonds, like, 2 per cent U.S. Treasury bonds.

We have seen a two-decade 20-year bull market in bonds. Some investors, like the legendary bond guru Bill Gross, made a fortune on it. But now, some, perhaps like Gross, may have missed the inflection point – the turning point that sees an end to the bond bull market.

   What drove the bull market? Falling interest rates, and rising bond prices, as central banks everywhere fought the global stagnation in the wake of the 2007-8 crisis by printing money and slashing interest rates.

   The booming Chinese economy, from 2002, created a huge boom in commodities and flooded with cash poorer countries that exported commodities (copper, oil, gas, iron, etc.) with cash. According to Mike Dolan, writing the “Inside the Markets” column in today’s New York Times, that boom led cash-rich countries to invest in low-risk government bonds, issued by the U.S. and other G7 countries. This led to rising bond prices and falling yields. It also led to the boom in the stock market. When you can’t make money on your investments in bonds, because of low yields, well, dump it into stocks.

   That trend is over, Dolan notes. The IMF says that the value of foreign currency reserves held by Central Banks rose in just one decade, from $1 trillion to over $8 trillion by mid-2014. That mini-trend is over too. Central Banks of exporting nations are now divesting their dollar holdings and spending them. No longer will they dump the money into U.S. Treasuries. And yields will rise, bond prices will fall.

   Central Banks everywhere are under pressure to raise interest rates, especially the U.S. Fed. Fed Chair Janet Yellen so far has delayed, and resisted, but it is inevitable. And markets are already capitalizing, into bond prices, the anticipated rate hike.  

   Dolan quotes Deutsche Bank: “The peak in bond demand is probably behind us.”

   Each of us needs to think about the implications of this inflection point, the shift from Mr. Bond to Mr. Bust.   Think about the possible teleology, or chain of events.   Higher interest rates mean….   Higher interest and debt-service costs, hurting debt-ridden governments, debt-laden businesses….and individuals?

    Lock in your low interest and mortgage rates now, while you can.  

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QE RIP

By Shlomo Maital

QE3

  OK,  the Fed, under Janet Yellin, has officially ended QE3.  After injecting 4 trillions dollars of cash into the US economy,  $85 b. a month for almost four years, it’s over.  It’s time for a summary.  QE (quantitative easing, RIP, rest in peace).

  How well did it work?   Well, it was better than Europe’s austerity, and the EU learned nothing from Ben Bernanke’s aggressive actions to forestall a new Depression.  The U.S. unemployment rate is 5.9%,  GDP growth was 4.6% last quarter, and the dollar strengthened.   Is Europe paying attention?

  For investors?  The 3 QE plans created great uncertainty and volatility. Each time a QE (quantitative easing, meaning, the Fed buys bonds and injects money into the system, that banks can lend) was announced, the stock market rose (expecting some of the new money would go into equities) and each time it ended, the stock market fell. 

   Against expectations the QE 3  has actually lowered the 10 year Treasury bond rate, after it rose by 100 basis points.  This cost bond legend Bill Gross his job at PIMCO, the world’s biggest fixed income investment fund; he guessed wrong on the direction.

   Despite that mountain of money,   inflation remains low, because most of that money is just sitting there, not moving; money velocity has declined.  Deflation is the problem, in the U.S. but mostly in Europe. 

   Overall,  faced with the lack of fiscal policy (as politics forced Obama to slash the US federal budget deficit),  there was no other policy tool available to stimulate the economy, other than QE, boosting the supply of money.  It may yet prove harmful, because the dollar is the world’s currency, still, and there are far too many dollars washing around out there – they are causing property bubbles far away, even in Hong Kong and China.  But for now, it looks like the three QE programs led by Ben Bernanke worked not bad.  

   Let’s watch now how his successor Janet Yellin handles weaning Wall ST. from its junky addiction to cheap money.  

Blog entries written by Prof. Shlomo Maital

Shlomo Maital
September 2019
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