A.I.M. Users Bulletin Board

[ls7550]

UK treasury issues have one if not the longest duration (average term). Most countries/states have issued massive amounts of debt (sold treasury bonds), with much shorter duration (average term) and at low cost (interest rates). Which is fine until such debt matures and either has to be rolled or repaid. If interest rates are higher at that time then the rolled debt will cost a lot more - which is ok if the state is running a surplus, not so good if running a deficit. The UK has been targeting reduction of the structural debt, so as to give it the flexibility/security of rolling/repaying, but that looks like it might be pushed back to 2020. Generally (globally) low rates look set to sustain for longer yet (until 2020 or beyond) IMO. With relatively low yields long dated treasury tend to be more volatile as even small moves can mean big swings in price (log scaled).

Historically when on the gold standard there used to be around equal measure of inflation and deflation - but large interim swings (volatility). Since President Nixon days (1968) we've more or less only seen inflation and a unwillingness (due to taxation policies) to allow deflation. That deflation resistance is a fundamental factor in my belief that low yields will persist for quite some time.

A risk factor is that sovereign wealth funds that have ballooned massively could decide to shut up shop (sell) 'ahead of the crowd' and I suspect we've been seeing some of that more recently. The UK hasn't participated in such Sovereign wealth fund type speculation (UK/Pound has recently been identified as one of the most stable/safe western economies). Much of the rest of Europe/Euro is pretty much of a basket case - not protecting its borders (migration from Asia/Africa) and multiple economic disconnections (one (interest) rate to fit all isn't working - quite the converse).

Another risk factor (rapidly rising yields) is that sentiment in the UK is quite high towards favouring a BREXIT (UK leaving the EU) and the EU has offered next to nothing to prevent that. In the event of the UK voting to leave, being just one of a few net contributors to the EU, could see the UK becoming even more of a safe haven as the EU declines into further turmoil.

China's throwing out metal/steel at below cost. Oil storage tanks are filled to capacity and Iran are now back in the market (and selling oil cheaply hurts the Saudis which whom they have issues). Job and wages indicate no sign of inflation. Difficult to see where any growth might come from that might drive inflation/yields higher. The exception will be more individual cases - states like Greece.

I suspect that Yellen will talk the talk about the next interest rate rise being soon - only to see repeated deferrals and perhaps no increase until 2017. 2% is the preferred choice under inflation based taxation policy, but in the absence of that taxation via other means will have to suffice. Watching some of Bernie Sanders vs Hillary Clinton debate the other night and it sounds like both are in favour of implementing some kind of wealth tax - both seemed to suggest a $250,000 start point band - but if that applies to total wealth then for many that might be eaten up by home value alone and that ignores that most states opt to avoid such taxation due to the negatives https://en.wikipedia.org/wiki/Wealth_tax#Disadvantages That said and I see there are record number of American's who live/work abroad resigning their citizenship due to FATCA (having to pay tax twice, once to their resident state and then also to the US). Tax evasion and drug/terrorism 'concerns' have enabled states to impose much tighter regimes - and when the state knows exactly where you are (CCTV/credit card spending/cell phone), how much you have coming in/going out and where your wealth is stored then your freedom is significantly impacted (state can 'confiscate' at will as/when/where it sees fit to do so).

Interesting times.

PS by the way of example, for a barbell of 20 year 2% Treasury where the market reprices longer term (20 year) yields to 4% a investor will take a hit of around -14% loss against that barbell (short dated/long dated (20 year) around equal amounts of both), excluding interest (perhaps -12% after interest is included). The interim fluctuations/trading can more than compensate for such a hit. And there's always the potential that the hit may be seen coming on the horizon and side-stepped. Since the start of the new year whilst stocks were down around -12% so long dated treasury were up +12%, which means that the stock purchase power of long dated treasury bonds have risen by approaching 30% since the start of the year (a similar amount to the gain in the stock purchase power of gold). Some each of cash (short term bonds), longer dated treasury and gold collectively as 'AIM CASH' provides the opportunity to sell/reduce whichever is the relatively best performer when AIM is indicating to add to stocks (more recently that would be either longer dated treasury and/or gold). Selling one asset that is up +10% to buy another that is down -10% obviously is better than selling one that is unchanged 0% to buy another that is down -10%. More so if later the situation is entirely reversed.