One of my biggest struggles with the concept of holding long bonds is that I have a pretty strong conviction that Greenboink is engaged in a 2:1 split of the US$. If you have too much debt in the system, and can't declare a jubilee year and wipe it all out, you just split the currency. It's almost brilliant; how else could you wipe out all the creditors' claims, erase the debt mountain, and start all over again and actually have everyone happy about it? Everyone is too stupid to realize what's going on; they just see ever larger numbers in their accounts, nevermind that they represent ever shrinking claims on real assets.
So, I ask myself under that scenario - a 2:1 split - what happens? Well, prices for all things would double. A $1 loaf of bread becomes $2. A $20K auto becomes a $40K auto. Even stocks and real estate, it would seem, would respond with a doubling of prices. Seems to good to be true - the debt vanishes, the system is cleansed, and people can start borrowing and consuming all over again.
Whoops - forgot about one market player - the bond holder. He gets hosed. He's now only getting back half what he paid in. So, it has the effect of a massive trasfer of wealth from creditors to debtors. Now, why in the world would I want to be a creditor facing that scenario?
Aside from the theoretical scenario above, you presently have negative real interest rates in the short end. To hell with money as a "store of value", Greenspan has made it "use it or lose it". It's an organized taking of assets from creditors to the benefit of debtors. Who does it help the most? Those with the most leveraged balance sheets. Your assets double in value while your liabilities remain fixed. It only hurts you if you try to hold anything liquid. You might be able to hold purchasing power in a bond if rates decline a little further, but are you really holding your own when the currency is devaluing at double-digit rates? Perhaps the play is Euro-denominated bonds? Pick up the currency gains, and the eventual capital gains as rates fall overseas?
Getting back to the 2:1 US$ split concept, I think where the whole thing falls apart is the behavior it causes in implementation. You don't split the currency overnight. You do it by jamming interest rates negative. Gradually the sharper creditors will figure out what is going on, and begin to look for a *real* currency, a store of value. Money gets pulled out of the system. Not just anything tangible will do, either. Real estate would be a good first guess, but pricing there is dependent as much on the rate of change of interest rates as it is on the value of the US$ (this is true of any asset class that tends to be highly leveraged). With rates having trended down for so many years, valuations have outstripped the growth in the money supply by far. When rates merely stop decreasing, the upward pressure on real estate will disappear, and it should underperform from there on out. Also, the rising tide of unemployment will eventually bite there as well.
So what do you do? Contrary to popular belief, stocks actually *do* have some inflation hedge properties built in, as their earnings streams track inflation. Their *valuations* are injured by rising rates, but at least their "coupons" track the devaluation. And their valuations are usually measured vs. bonds. If the Fed keeps jamming short-term rates negative, the interest rate carry play will insure unreasonable bond coupons, and foolish valuations for stocks. Unfortunately, I keep hearing that voice in my head telling me that stocks represent capital stock, and in a world awash in excess capacity, that capital stock becomes virtually worthless, no matter how many currency yardstick games are played. However, to the extent that rates are artificially low and earnings track the currency devaluation, stocks might do OK.
I keep coming to the same conclusions over and over again. Creditors get hosed. Don't be a creditor. Try to anticipate what rational creditors will do under a scenario where Greenspan forces the whole yield curve to negative real interest rates. Are they going to hold short-term money? Long-term money? No to both. Stocks? Perhaps. Commodities? I think that might be the answer. The further from the consumer the better.
Perhaps this is all futile. I should just diversify among stocks, bonds, gold, real estate, and not worry about it. But it seems reasonable to underweight a couple of asset classes here, and I'm trying to figure out that weighting. I really don't like the idea of fading you, Reap, so I'm reluctant to underweight bonds, but it seems like the risk/reward there is no longer favorable, especially in light of the crumbling currency. I'm coming to the conclusion of shifting what bond holdings I do have entirely out of the US currency. So, my macro view is
(On scale of -5 to +5 weighting)
US money: -5
US bonds: -4
US real estate: -3
US equities: -2
Euro money: -3
Euro stocks: -3
Euro bonds: 0
Non-US commodities stocks:
+5
Gold: +5
What do you think? What do you overweight besides commodities, gold, and non-US commodities producers?
Sorry to ramble so long...
BC |
