Bonds!

[Red Lion]

On 10/3/2023 at 8:24 AM, Gmthebeau said:

 

If you don't think the FED will get inflation back to 2% TIPS are a better value, but if you think they will be successful and with the massive amount of debt out there, if we ever have any fiscal discipline (compared to what Trump/Biden did) then if we even have a year or so of deflation then regular treasuries will be better than TIPS.   

I don’t think anyone plans on fiscal discipline. 
 

I think the plan is to shock the economy into a little recession and then use more qe to slowly inflate our way out of the debt. 
 

How else are we actually going to pay back the debt? Currently all the high wage earners in America are taxed excessively, you obviously aren’t going to raise tax dollars from the bottom 90% without widespread revolt. I guess there are billionaire estate tax loopholes or maybe some other tax opportunities, but nothing close to what we owe. At 100% of gdp it seems like rates have to go down at some point or else we inflate the gdp. 

[Spekulatius]

12 minutes ago, RedLion said:

How else are we actually going to pay back the debt?

Governments almost never pay down debt, it’s getting rolled over. If you follow the discussions here, - the government deficits are what creates money basically, so paying down debt would be very deflationary. It’s not going to happen.

 

I do not understand the logic behind government debt being deflationary. Creating government debt is inflationary (if rate of change is faster than GDP) and reducing government debt is deflationary.

[Red Lion]

10 minutes ago, Spekulatius said:

Governments almost never pay down debt, it’s getting rolled over. If you follow the discussions here, - the government deficits are what creates money basically, so paying down debt would be very deflationary. It’s not going to happen.

 

I do not understand the logic behind government debt being deflationary. Creating government debt is inflationary (if rate of change is faster than GDP) and reducing government debt is deflationary.

I don’t understand all the macro ind and outs, but this is kind of what I meant. I don’t think anyone’s paying down the debt, but I think the goal is to grow gdp faster than the debt and deleverage that way (like we did after wwii). 

[Cigarbutt]

30 minutes ago, RedLion said:

I think the plan is to shock the economy into a little recession and then use more qe to slowly inflate our way out of the debt. 
How else are we actually going to pay back the debt? 

i know this is not the ideal place for such discussion but if (this is a big IF) uncoupling of debt formation from underlying economic activity comes back to earth (no need to "pay it back"), this is likely to be deflationary and potentially good for bonds in general..

-----

From another thread (related? relevant?):

Are new weight-loss drugs the answer to America’s obesity problem? – Harvard Gazette

In other words, are these peripheral solutions that don't address fundamentals the way to go?

-----

Back to this thread with rewording of title:

Are cheap money and debt the answer to America's fiscal/debt problem?

Interest Payments on Federal Debt Are About To Skyrocket (reason.com)

13 minutes ago, Spekulatius said:

..the government deficits are what creates money basically...

only if government debt is bought by the Fed and by commercial banks. If the debt is financed through taxes or through draining of private funds, no money is created.

Edited October 7, 2023 by Cigarbutt

[Cigarbutt]

4 minutes ago, RedLion said:

...(like we did after wwii). 

not quite the way that is implied (based on numbers from that period).

[Dinar]

The best solution to the government deficit problem is to slash welfare, food stamps, Medicaid and similar programs, including end government guarantee of student loans.  The result will be a reduction in government spending (a very substantial one), increase in taxes as employment will increase materially, lower inflation as the wages will not have to compete with very generous social benefits.  In addition, it is better for society when people work rather than collect welfare, including fewer children born to unwed mothers.  

[Red Lion]

38 minutes ago, Dinar said:

The best solution to the government deficit problem is to slash welfare, food stamps, Medicaid and similar programs, including end government guarantee of student loans.  The result will be a reduction in government spending (a very substantial one), increase in taxes as employment will increase materially, lower inflation as the wages will not have to compete with very generous social benefits.  In addition, it is better for society when people work rather than collect welfare, including fewer children born to unwed mothers.  

Amen  

[TwoCitiesCapital]

6 hours ago, Spekulatius said:

Governments almost never pay down debt, it’s getting rolled over. If you follow the discussions here, - the government deficits are what creates money basically, so paying down debt would be very deflationary. It’s not going to happen.

 

I do not understand the logic behind government debt being deflationary. Creating government debt is inflationary (if rate of change is faster than GDP) and reducing government debt is deflationary.

 

Debt, for any entity, is inflationary upon issuance and deflationary upon servicing/maturity. 

[Gregmal]

20 minutes ago, TwoCitiesCapital said:

 

Debt, for any entity, is inflationary upon issuance and deflationary upon servicing/maturity. 

Reits in a nutshell for the next 3-5 years.

[Gamecock-YT]

10 hours ago, Dinar said:

The best solution to the government deficit problem is to slash welfare, food stamps, Medicaid and similar programs, including end government guarantee of student loans.  The result will be a reduction in government spending (a very substantial one), increase in taxes as employment will increase materially, lower inflation as the wages will not have to compete with very generous social benefits.  In addition, it is better for society when people work rather than collect welfare, including fewer children born to unwed mothers.  

and all the politicians that vote for that immediately being thrown out of office next time they are up for re-election. No incentive to stop the gravy train. They get to keep cashing them checks. It’ll be someone else’s problem.

[Dinar]

5 minutes ago, Gamecock-YT said:

and all the politicians that vote for that immediately being thrown out of office next time they are up for re-election. No incentive to stop the gravy train. They get to keep cashing them checks. It’ll be someone else’s problem.

When in January of 2020 (before Covid), in NYC, with every block posting job openings offering $20 per hour + benefits for unskilled work, 25% of the city was on food stamps, it has to stop.  It cannot continue on this trajectory much longer.  Bill Clinton did his welfare reform and was re-elected, Giuliani made welfare recipients clean parks and was re-elected.  

[Gregmal]

Even Kashkari, who's made some pretty out of touch remarks, today made some very interesting comments with regards to rates. One part basically saying it was totally perplexing that people would be selling off 10y+ treasuries under the assumption that the Fed is going to be more aggressive from here. "head scratcher" think was another term he used.

 

May have to check out some of those Pupil2066 Floaters.....not joking. 

[mattee2264]

What concerns me a little is that yes the Fed isn't going to be much more aggressive but you'd expect a little more of a term premium as the yield curve continues to un-invert. I think historically it is something in the range of 100-150bps. And that is what I think the Fed is banking on. It is also difficult to imagine much of a pivot when IMF forecasts see the US avoiding recession. And the US government is still running trillion dollar deficits which will mean a lot of supply to absorb. 

 

But seems like a decent insurance policy given that if there is a hard landing and a hard pivot you can probably make around a 20-30% return + interest and have dry powder to buy at much lower stock prices. 

 

[UK]

12 hours ago, Gregmal said:

Even Kashkari, who's made some pretty out of touch remarks, today made some very interesting comments with regards to rates. One part basically saying it was totally perplexing that people would be selling off 10y+ treasuries under the assumption that the Fed is going to be more aggressive from here. "head scratcher" think was another term he used.

 

May have to check out some of those Pupil2066 Floaters.....not joking. 

 

I think they are/were selling of more not because of the assumption what is Fed going to do, but because of supply/demand issue: just to much borowing and at the same time QT and less demand from China/Japata/etc. Market obviously like Fed paying attention to this issue though:)

[gfp]

I think there is a lot of demand across the curve for treasury securities with a 5 handle.  This year's bond market (and maybe the stock market as well) is shaping up to rhyme with 2018.

Edited October 11, 2023 by gfp

[NnnnotSoSmart]

Howard Marks' Latest Memo:

 

Further Thoughts on Sea Change

 

"Unless there are serious holes in my logic, I believe significant reallocation of capital toward credit is warranted"

 

https://www.oaktreecapital.com/docs/default-source/memos/further-thoughts-on-sea-change3dda4540-569f-4415-9a5b-004fbabf06d4.pdf?sfvrsn=c3cc5166_4

 

Audio version:

https://www.oaktreecapital.com/insights/memo-podcast/further-thoughts-on-sea-change

 

 

[Sweet]

1 hour ago, NnnnotSoSmart said:

Howard Marks' Latest Memo:

 

Further Thoughts on Sea Change

 

"Unless there are serious holes in my logic, I believe significant reallocation of capital toward credit is warranted"

 

https://www.oaktreecapital.com/docs/default-source/memos/further-thoughts-on-sea-change3dda4540-569f-4415-9a5b-004fbabf06d4.pdf?sfvrsn=c3cc5166_4

 

Audio version:

https://www.oaktreecapital.com/insights/memo-podcast/further-thoughts-on-sea-change

 

 

If we are in a rising rate environment, as he seems to be suggesting, why wouldn’t bonds you buy now go down also?

 

Yes, you can redeem at par depending on the redemption date and flip, but there is some equity out there yielding 5%+ at relatively low PEs that I think could outperform bonds.

 

I think bonds make more sense now if you believe a recessions and rate cuts are coming.

 

Edited October 11, 2023 by Sweet

[thepupil]

1 hour ago, Sweet said:

If we are in a rising rate environment, as he seems to be suggesting, why wouldn’t bonds you buy now go down also?

 

Yes, you can redeem at par depending on the redemption date and flip, but there is some equity out there yielding 5%+ at relatively low PEs that I think could outperform bonds.

 

I think bonds make more sense now if you believe a recessions and rate cuts are coming.

 

howard marks mostly selling credit and private credit that will have relatively short duration or in case of private credit, direct lending, leveraged loans, etc, all that’s floating rate. 
 

but even if we’re talking fixed rate credit, duration of the High yield

index is quite low at about 4. Most HY bonds mature in 5-7 years and at 9%+ YTM on index not very rate sensitive. 

 

Credit bonds/loans etc have far less duration than equities. You can obviously get more duration in tsy’s/IG/mtg’s etc
 

I don’t think credit spreads for risky stuff are all that great; IG spreads are pretty average/myeh (but I think all in yields on IG/MBS meet my hurdle). 

Edited October 11, 2023 by thepupil

[TwoCitiesCapital]

I'm  looking to add JLS. 

 

Nuveen's mortgage strategy. Yielding 9-10% w/ a duration of 2. Discount  is currently 10-11% to NAV. I like mortgages here. Obviously leveraged so still risk of damage to principal even with low duration, but is an interesting way to lever up what is a relatively safe credit spread at very attractive levels without taking a ton of duration risk. 

 

Have had success, and positive returns, buying credit CEFs at large discounts earlier this year (yields more than made up for price depreciation with additional hikes). 

 

I like mortgages risk more than corporate credit at this point. The low duration and 50% of portfolio in floating rate notes differentiates this from my other fixed income holdings. Similar to my holdings in JSCP, primary focus is short-duration spread with this while I take my duration exposure elsewhere. 

 

 

 

 

[thepupil]

I don't know too much about CRT's, my relatively uninformed impression is they are a very levered bet on housing prices and health of consumer and not really in line w/ your cautious macro view. .you're basically betting there won't be any defaults on agency MBS. check out the coupons on the largest holdings. very high. 

 

 

https://capitalmarkets.freddiemac.com/crt/securities

https://capitalmarkets.fanniemae.com/credit-risk-transfer/single-family-credit-risk-transfer/connecticut-avenue-securities

 

[thepupil]

this is a fun chart. 80-145 bps thick tranches. HUGE structural leverage (but you got burn through everyone's substantial home equity before dime of losses)

 

https://capitalmarkets.fanniemae.com/media/22751/display

[thepupil]

rabbit hole #2 of the evening, so the largest security held by this fund is FNMA STACR 2022 DNA2 M2RB (quite a mouthful!). I don't begin to fully understand them. Because I don't have a PhD in financial engineering.

 

From a high level, they are interest only, pay a floating rate and you really don't want Fannie Mae experiencing >125 bps of losses on their mortgage portfolio, >200 bps over the 5 yrs from issuance and you lose all your principal. 

 

I kind of love it, put 1% in it, get paid 10% just to bet on disaster not happening. but you're writing a put on the american household. 

 

biggest risk would seem to be short term rates decline along with spike in defaults (deep recession). 

 

Edited October 12, 2023 by thepupil

[mattee2264]

I think Marks is making the common mistake of ascribing far too much importance to interest rates. Interest rates stayed low post GFC because the economic recovery was weak and growth remained anaemic. That changed post COVID because the government started running trillion dollar stimuluses and continued to do so even after the economy was back online and that contributed to a lot of inflation a lot of growth and consequently higher interest rates. 

In other words interest rates are more of a resultant rather than a cause. And unless the markets can impose fiscal discipline the way they did with the UK then trillion dollar deficits will continue and so will economic growth which will support higher interest rates and valuations. 

 

But agree with him about sentiment. We saw that investors were initially shocked by the rate hikes and we had a bear market in 2022. But once inflation started falling and there were no signs of recession they just looked through the rate tightening cycle and towards future rate cuts. And markets continue to ignore any hawkish rhetoric and rally on anything remotely perceived as dovish. If we are in a higher for longer environment it will take time for that to be reflected in market valuations but there will be a potential offset from higher growth and earnings. So perhaps markets will continue to go sideways for the foreseeable future.

 

Also while professionals like Marks may see better risk-adjusted returns in bonds most investors aren't going to get that excited about high single digit returns on bonds when they have been used to double digit returns on equities and for more active investors doubling or tripling their money in short periods of time. 

And if inflation does take off again and rates need to go higher that will eat into real returns and result in interim losses. For there to be more appreciation of the virtues of bonds I think we need to experience a more prolonged bear market. Not another short lived one with a V shaped recovery which reinforces attitudes such as "buy the dip" and "hold on and wait patiently for the inevitable recovery". 

 

 

 

 

[Dinar]

Howard Marks claims that double digit returns are now available in credit but that omits impact of defaults, and management fees.  Once you adjust for that, his 10% yield turns into 6-8%.  Adjust for less advantageous tax treatment, and I do not understand why wealthy individuals would go for credit.  

[thepupil]

16 minutes ago, Dinar said:

Howard Marks claims that double digit returns are now available in credit but that omits impact of defaults, and management fees.  Once you adjust for that, his 10% yield turns into 6-8%.  Adjust for less advantageous tax treatment, and I do not understand why wealthy individuals would go for credit.  

I don’t think he’s marketing to wealthy individuals, but rather (mostly) non tax paying institutions.

 

non wealthy to moderately wealthy people have 401ks/IRAs/annuities etc. very wealthy people have private placement life insurance that remove the tax friction. 
 

regarding defaults, agree completely the common practice of quoting gross yields in risky credit is somewhat misleading, but I’m not sure of a good alternative because everyone will have dofferent default rates/LGD. 

 

I agree that 6-8% pre-tax is more or less what’s on offer at this time, most safe stuff I’ve seen being closer to 6 on the long end and 7 on the short end. Extreme safety being ~1% lower then going up from there with credit risk.

 

pre-tax seems pretty competitive with stocks, when get at computer, I’ll run what % of 5 year rolling periods >7% for stocks, my guess would be like 60%-80% or so but not sure. If you’re starting from “with no knowledge, strictly backward looking, this has 30% chance to beat stocks” and overlaying a little bit of bearishness/caution/relative value judgement, think it’d make sense to own some bonds (and would be dumb to own all bonds /no stocks).

 

it at least makes more sense now than any time in my short time as an investor.