Thanks for the healty dose of reality, sometimes I feel like I'm living in a simulation, with so many people just not realizing what's going on, and maybe thinking (hoping) we will just go back to printing more money soon...
This is a bloody brilliant article and I wish I’d read it at the time as it explains things so perfectly clearly and way better than my pathetic attempts.
I’m actually going to go a step further and say that I think you have really under-cooked one key element of the analysis as it applies to the UK. The UK has, I think, the biggest defined-benefit pension schemes in the world and they are certainly a huge proportion of investable assets. Since the mid 2000s, pension regulation and accounting has emphasised/ forced Fixed-income heavy asset and liability matching in the name of ‘de-risking’ pension funds. Given a limited supply of index-linked paper, funds have been forced to buy ‘risk-free’ gilts in vast quantities. Not entirely coincidentally, the UK has run ever-increasing deficits since the GFC that have been financed primarily by the funny money of QE or the switch by pension funds from equities to bonds. The result is that UK pension funds have absolutely massive Gilt holdings and, frankly, I can’t see how the entire system isn’t screwed. Meanwhile the politicians have lacked all fiscal discipline and we seem to me now to be teetering on a precipice.
It is mind-numbing even leaving aside duration considerations in bond investments to lend someone money for 0.50% for a 40-year-term. Seeing value being destroyed by the badly veiled idiocy the central bankers coined as "Q.E." - it must become clear that the inflection point has already been reached in the issuance of money as a measure of value.
It is now only created out of thin air to paint over the ever-increasing cracks of the dam holding back what's left of monetary policy.
The amount of near-catastrophical disasters is mounting rapdily since 2008 opened the floodgates to neverending increase of M2. Before Covid lockdowns we had the 2019 reverse repo spike that was barely contained. This ironically was caused by a lack of cash reserves (!) when we know there's too much of it bascially sloshing around, but as we know tied up in yield-seeking adventures of the risky kind more likely than lying around to cover for payments.
And now, the reverse repo will probably be another problem that will be harder to control since all the cash is now in waiting positions - for higher yields. It was a facility that got overblown by the same Fed / Central Bankers devising it to patch over the dam ready to burst:
Brilliant article! Thank you for breaking down duration in laments terms. Helped me understand and appreciate what is to come since interest rates should only continue to go up.
Great write up! Spot on - pension funds and other "sophisticated" institutional investors bought these long duration bonds hand over fist - utterly maddening.
Excellent analysis. It seems like this was a very well coordinated effort by Central Bankers around the globe to assure asset managers that rates would stay lower for a longer, but Central Bankers have reneged on those backroom deals, pushing rates up, full well, knowing that there would be a crisis inside pensions and insurance companies, which would then spread to brokerage houses, crypto dealers and all other facets of the economic engine. Classic case of problem, reaction, solution, where the Fed and Central Bankers knew what they were doing, full well knowing they would pick things up on the cheap, continue to let the patient bleed out, and eventually nationalize everything. Traditionally stock portfolio managers has been the "Dumb Money", and the bond money has been the "Smart Money". But it seems that we've simply been in a 40-year bull run in bonds, and bond portfolio managers are just as stupid as stock portfolio managers. They are all playing within the confines of the same game. Maybe some bond portfolio managers are now finally starting to realize the game is over. Governments in and of themselves will attempt to nationalize wide swaths of various markets if interest rates continue to increase, which will squeeze all industries, especially energy, to which they can consolidate more power and control, and typical communist fashion. May people find God in these days, and may the free market return with a backed physical precious metals monetary system!
Thanks for an elucidating article. So many people have a hunch that the individuals at the top are not proper grown-ups. You explain why very well. Cheers to you sir
>coincidentally was the focus of last week’s post, The Furnace.
Pull the other one, that post was about as coincidental as your posts on the Chinese banking system :P
>This particular bond was issued in October 2020 with a coupon of 0.50%. Allegedly sane, sophisticated investors lent the U.K. government money at a fixed rate of 0.50% for forty years. While this sounds like a boring investment, it is an extraordinarily risky bet on interest rates.
I'm getting flashbacks of the CDS contracts issued in 2007. There was nothing sane about the issuers of those contracts.
>The only possible rationale for buying this instrument is the expectation that central banks would continue bidding bonds higher into negative yielding territory - yet another financial perversion of modern monetary policy.
Not my area of expertise, but aren't the buyers (pension funds etc) essentially forced / contractually obligated into buying these securities as supposedly safe instruments? The fund managers aren't exactly allowed to take $2b and throw it into the latest shitcoin. The problem is they're both moving equivalent magnitudes.
Thanks for the healty dose of reality, sometimes I feel like I'm living in a simulation, with so many people just not realizing what's going on, and maybe thinking (hoping) we will just go back to printing more money soon...
Enjoyed the re-read,thanks for reposting.
What is/will be the net difference between deflating and popping the balloon?
Isn’t it just the same but without the bang??
This is a bloody brilliant article and I wish I’d read it at the time as it explains things so perfectly clearly and way better than my pathetic attempts.
I’m actually going to go a step further and say that I think you have really under-cooked one key element of the analysis as it applies to the UK. The UK has, I think, the biggest defined-benefit pension schemes in the world and they are certainly a huge proportion of investable assets. Since the mid 2000s, pension regulation and accounting has emphasised/ forced Fixed-income heavy asset and liability matching in the name of ‘de-risking’ pension funds. Given a limited supply of index-linked paper, funds have been forced to buy ‘risk-free’ gilts in vast quantities. Not entirely coincidentally, the UK has run ever-increasing deficits since the GFC that have been financed primarily by the funny money of QE or the switch by pension funds from equities to bonds. The result is that UK pension funds have absolutely massive Gilt holdings and, frankly, I can’t see how the entire system isn’t screwed. Meanwhile the politicians have lacked all fiscal discipline and we seem to me now to be teetering on a precipice.
What's discussed here makes way too much sense to be taken seriously.
jk
Wow superb article, thanks TLBS! Your subscription should be mandatory in MBA schools!
It is mind-numbing even leaving aside duration considerations in bond investments to lend someone money for 0.50% for a 40-year-term. Seeing value being destroyed by the badly veiled idiocy the central bankers coined as "Q.E." - it must become clear that the inflection point has already been reached in the issuance of money as a measure of value.
It is now only created out of thin air to paint over the ever-increasing cracks of the dam holding back what's left of monetary policy.
The amount of near-catastrophical disasters is mounting rapdily since 2008 opened the floodgates to neverending increase of M2. Before Covid lockdowns we had the 2019 reverse repo spike that was barely contained. This ironically was caused by a lack of cash reserves (!) when we know there's too much of it bascially sloshing around, but as we know tied up in yield-seeking adventures of the risky kind more likely than lying around to cover for payments.
https://en.wikipedia.org/wiki/September_2019_events_in_the_U.S._repo_market
https://www.richmondfed.org/publications/research/econ_focus/2019/q4/opinion
And now, the reverse repo will probably be another problem that will be harder to control since all the cash is now in waiting positions - for higher yields. It was a facility that got overblown by the same Fed / Central Bankers devising it to patch over the dam ready to burst:
https://www.bloomberg.com/news/articles/2022-09-28/fed-reverse-repo-use-hits-fresh-record-as-investors-hide-in-cash
Brilliant article! Thank you for breaking down duration in laments terms. Helped me understand and appreciate what is to come since interest rates should only continue to go up.
Great write up! Spot on - pension funds and other "sophisticated" institutional investors bought these long duration bonds hand over fist - utterly maddening.
Really well written! Provides crucial context on the magnitude of consequences of the action in the bond market lately.
Excellent analysis. It seems like this was a very well coordinated effort by Central Bankers around the globe to assure asset managers that rates would stay lower for a longer, but Central Bankers have reneged on those backroom deals, pushing rates up, full well, knowing that there would be a crisis inside pensions and insurance companies, which would then spread to brokerage houses, crypto dealers and all other facets of the economic engine. Classic case of problem, reaction, solution, where the Fed and Central Bankers knew what they were doing, full well knowing they would pick things up on the cheap, continue to let the patient bleed out, and eventually nationalize everything. Traditionally stock portfolio managers has been the "Dumb Money", and the bond money has been the "Smart Money". But it seems that we've simply been in a 40-year bull run in bonds, and bond portfolio managers are just as stupid as stock portfolio managers. They are all playing within the confines of the same game. Maybe some bond portfolio managers are now finally starting to realize the game is over. Governments in and of themselves will attempt to nationalize wide swaths of various markets if interest rates continue to increase, which will squeeze all industries, especially energy, to which they can consolidate more power and control, and typical communist fashion. May people find God in these days, and may the free market return with a backed physical precious metals monetary system!
☕✝️
This is such a great piece that I came back to read it again after everything that we’ve been seeing with SVB, etc. Well done!
Thanks for an elucidating article. So many people have a hunch that the individuals at the top are not proper grown-ups. You explain why very well. Cheers to you sir
>coincidentally was the focus of last week’s post, The Furnace.
Pull the other one, that post was about as coincidental as your posts on the Chinese banking system :P
>This particular bond was issued in October 2020 with a coupon of 0.50%. Allegedly sane, sophisticated investors lent the U.K. government money at a fixed rate of 0.50% for forty years. While this sounds like a boring investment, it is an extraordinarily risky bet on interest rates.
I'm getting flashbacks of the CDS contracts issued in 2007. There was nothing sane about the issuers of those contracts.
>The only possible rationale for buying this instrument is the expectation that central banks would continue bidding bonds higher into negative yielding territory - yet another financial perversion of modern monetary policy.
Not my area of expertise, but aren't the buyers (pension funds etc) essentially forced / contractually obligated into buying these securities as supposedly safe instruments? The fund managers aren't exactly allowed to take $2b and throw it into the latest shitcoin. The problem is they're both moving equivalent magnitudes.