ProShares Ultra Short 20+ Year Treasury (TBT-NY) - Top Pick - I would recommend you read Macquarie's Smart Income White Paper
Jaime Carrasco, Investment Advisor, Macquarie Private Wealth on BNN.ca Friday July 19 at 1800hrET
As U.S. treasuries have sold off over the last few months and pushed interest rates higher, mortgage borrowing rates have followed suit. This in turn puts pressure on the housing recovery, as a $2,000 monthly mortgage payment now only buys $395K of equity, down from $425K two months ago, and $525K a year ago. Furthermore, and of even greater concern, is that the interest expense for the U.S. government just increased by 12 percent. With the official government debt sitting at $16.738 trillion, this rate increase means that all the budget cuts from the sequester have to be brought back and spent just to keep up with heightened interest payments. The effect on the bond market is so strong that Fortune magazine reported the Federal Reserve had lost $151 billion on U.S. treasury positions they have been acquiring as part of QE in order to keep interest rates low. The Fed does not seem particularly concerned about the losses though, likely because they can literally create new money with a keystroke. However, the same cannot be said for bond portfolio managers. One needs to wonder why there is so little discussion about the losses being incurred for pension funds, insurance companies, and financial institutions, who happen to be the largest owners of these securities. Because the bond market is about 3.3-times greater than the equity market, the recent 12 percent correction in the bond market is the nominal equivalent of about a 40 percent drop in the equity market. If equities lost 40 percent, you can be sure everyone and their grandmother would have heard about it. Apparently this is not the case when it comes to bonds.
Due to its sheer size, when the bond market begins to adjust, policy makers will have trouble containing rates because bond fund managers are not beholden to the government (which the banking sector is), but to the pensioners for whose money they are the custodians. In other words, foreseeing rising rates, these fund managers have more incentive to sell their bond positions, preserving capital for their clients while pushing rates higher, regardless of the effect on government interest expense or the housing market, rather than holding on for minimal interest payments while risking significant losses.
The last time the global economy faced similar challenges, interest rates increased from a low of 6 percent in 1976 to an all-time high of 20 percent by 1982. This time around a similar correction should be expected, especially when one considers that in 1970 bond managers had the benefit of time since baby boomers were still middle-aged income-earners, saving and investing their wealth, as opposed to today where they are retired or retiring, needing to make constant withdrawals. Since time is a luxury bond fund managers can no longer afford, they will have to find ways to hedge this fact. History shows that when the bond bear wakes, it is with us for a while.
Never has the need for smart income been more important and I would recommend you read Macquarie's Smart Income White Paper as a useful road map, as you begin to evaluate the future investment environment. |
