About This Content - The views expressed here regarding market and economic trends are those of Investment Professionals, and are subject to change at any time. These views should not be relied upon as investment advice, as securities recommendations, or as an indication of trading intent on behalf of Pioneer. There is no guarantee that these trends will continue.
This material is not intended to replace the advice of a qualified attorney, tax advisor, investment professional or insurance agent. Before making any financial commitment regarding any issue discussed here, consult with the appropriate professional advisor.
The other day while sipping coffee, I began to reflect on the news coming out of the recent EU summit. I wont go into the details of the summit agreements – youll find them in some recent commentary by our Global CIO, Giordano Lombardo. Suffice to say that they appear to have moved the needle a bit.
I will, however, point out that while debt “mutualization” was not agreed upon, there was an about-face on the subordination of existing bank debt in the Spanish bank bailout plan. But wait a minute . . .capital injections into Spanish banks without strings? As the saying goes, if it walks and talks like a duck
Ultimately, whatever form debt mutualization takes, it is in essence a form of monetary accommodation.
So as I sat there sipping coffee, I began to wonder where all this was leading . . .
At this time, almost all developed nations, to a greater or lesser degree, are engaging in sovereign bond buying to suppress yields and battle deflation.
- Japans economy appears stuck in a deflationary trap. We believe that their central bank will be forced into ever larger bond buying as the income needs of Japanese citizens drive them to be net sellers of government bonds.
- Europe, on the brink of a deflationary trap, continues to expand its balance sheet through multiple programs (ESFS, LTRO, SMP). At some point, the ESM will go live and prove another source of bond buying and capital injection.
- The U.S. has kept deflation at bay so far. However, with over $17 Trillion of debt (approaching 100% of GDP), rapid deleveraging could put significant downward pressure on economic activity. Through QE, the Fed will continue to try to engineer a long runway for deleveraging.
What are the implications of all this bond buying?
It is clear that it will take a long time before we move towards more sustainable debt loads in the developed world. Safe-haven demand is surging and QE will continue to dominate the investment landscape during this long deleveraging process. As a result, developed world government bond yields will be “repressed,” and at some point, the pump priming may lead to inflation, as stimulus finally intersects with recovery.
In the meantime, the world will be starved for income as safe haven yields provide negative real income. This will force insurance companies, pension funds, endowments and retirees to hunt for alternatives. Investors will increasingly seek out higher producers of income in all forms, including dividend yielding stocks, developing world government debt, corporate credit, etc.
Today, as I pour myself yet another cup of coffee, I think about spreads around the world, and all the opportunities that await income-hungry (and risk-aware) investors. I cant help but wonder if we arent at the early stages of the next bubble – the income bubble. Of course, bubbles are fine in the early stages – its the “burst” at the end that you want to avoid. But that, like inflation, is worry for another day.