Realist, not conformist analysis of the latest financial, business and political news

Bond’s Auction and Your Nest Egg

In the James Bond film Octopussy, Bond (Roger Moore) finds himself at an auction, bidding up the price of a Faberge egg, in an attempt to establish how badly his nemesis needs it.

And it transpires that his nemesis needs it very badly, for reasons we won’t trouble ourselves with here. Bond manages to bid up the price quite a bit, and earns himself the lifelong enmity of the serpentine Kamal Khan (Louis Jordan) for his trouble.

And this situation is very similar to how bond auctions have been working this last decade or so, coincidentally.

You see, the central bankers are a bit like James Bond, bidding up the price of bonds with their infinite supply of money. And Kamal Khan is like your slippery pension fund manager, obliged to have a percentage of your portfolio safely invested in these “risk-free” assets.

And as Bond and Kamal Khan compete for the bonds, their prices rise and the yields on them tumble. The other participants at the auction lose interest in such low-yielding instruments, and go off to invest their money elsewhere in their reach for yield – the purpose of QE used to buy bonds ostensibly being to drive investment out along the yield curve in exactly this manner. To get banks lending, and money out into our economies.

Of course there is another benefit.

Rolling Over Debt

When central bankers hoover up the bonds around the world at these auctions with new money (via proxies called primary dealers), they are forcing the price up and the yield down. This is very convenient for heavily-indebted governments, who get to roll over their debt like we do our mortgages, at very low rates – close to zero in many cases.

And it’s a good job too – just look at the mess America is in!

They owe $23.4 trillion dollars!

And the rate they previously paid to those who lent them money? Well, the long-run average was about 5% or so, across the longer-maturity Treasuries.

But look at that rate again, compared to the amount they now owe?

$23.4 trillion

I make that $1.17 trillion a year in interest – you?

That’s $1,170 billion dollars.

And that’s just to service the debt.

They can’t afford that – the American government only expects to get about $3.8tn in tax revenue next year

So when primary dealers use the new money to buy government bonds at nice low rates that no-one else could stomach, they to make it possible for their bankrupt government to service its debts.

Now, our tuxedoed friend Mr Bond is not using counterfeit money to pay for it in the film, but let’s assume for a moment that he is the Federal Reserve, who have an endless supply of counterfeit money at their disposal, and the egg is not a jewel-encrusted geegaw, but a big bundle of government bonds – US Treasuries in this case..

And hapless Kamal Khan is looking to buy these………bonds……….on behalf of your pension fund. Nice safe government bonds for your pension fund to satisfy the risk-free part of their portfolio, to be balanced with riskier assets of course to get the 6% yield they need to pay your pension and buy themselves Ferraris.

Let the Bond Auction commence.

As the price rises the yield falls, and Kamal starts to sweat as he realises the yield is now putting pensioners in a difficult position – below about 5% the fund isn’t making enough across the board to pay a return without eating into capital. Below 3% it isn’t even outperforming inflation.

The auction closed last week and Bond forced yields down to 1.12%. Today it is flirting with 1%.

Bond can sit back with a satisfied smile – using his government’s money he has successfully driven the price of US Treasuries to unheard-of heights – a gigantic bond bubble blown by the most insane Monetary Montgolfiers ever to walk the Earth.

Soon, Kamal Khan will have to admit to you that he has tied up your pension in an investment that will pay you sweet FA even before inflation and will soon in any case be turned to dust by monetary authorities determined to debauch their currencies away to nothing during a hyperstagflationary implosion the likes the world has never seen.

Of course the coronavirus might save them from having to admit their misdeeds – I wouldn’t be surprised if the central bankers of the world aren’t paying infected patients to lick doorknobs right this very minute.

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4 years ago


…and then CV19 gave Fed an excuse to cut base rate by 0.5% to drive bonds even lower

Savings? Mattress to be banned

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