Living in interesting times
For those of you who’ve been patient enough to read my posts over the last five years (thank you; it is appreciated), you’ll know they’ve long been...
Living in interesting
Interest rates and
the negative normal
May you live in interesting times...
The phrase, “may you live in interesting times” is supposedly translated from a Chinese curse which actually means (darkly): “may you come to the attention of the authorities”.
Call me superstitious but in the case of interest rates, this hoodoo might already have taken hold.
For those of you who’ve been patient enough to read my posts over the last five years (thank you; it is appreciated), you’ll know they’ve long been focused on the twin evils - or, conversely, saviours - facing pension funds: interest rates and inflation.
Never mind interesting times, pretty much all of the time will see interest rates as a principal influence on investment performance, particularly over the long-term.
Over the years, we’ve questioned the impact of the low-rate, low-return environment, questioned the influence of quantitative easing, questioned if rates would ever return to whatever a “normal” level would be...
...concluding that this was the “new normal” and that forecasting was a mugs’ game.
Monetary policy (by which I mean how governments set interest rate policy and fix inflation measures) has been focused on maintaining liquidity (see QE) and this is set to continue.
At the time of writing, the ECB has just reduced its already negative interest rate for deposits by ten basis points - to 0.5 per cent - and resumed bond buying to keep the European economy from falling victim to a long-predicted recession, which is yet to materialise.
This is yet another step towards a negative normal.
The sheer weight of money now tied up in bonds - trillions of $ across the world - have pushed yields ever lower.
It is now accepted that institutional investors will swallow a small, quantifiable loss by buying bonds, rather than risk a larger, unknown potential loss by not holding them. In the case of government bonds, it’s a price considered worth paying for an investment considered as close to guaranteed as it’s possible to be.
But it’s not the mechanics as much as the message that is gathering momentum at this time.
And the message appears to be that even the biggest of the government bond beasts, such as Germany and the US, are wobbling as fear of recession send yields (the rate investors earn from holding the bonds) lower.
The Japanese, Swedish and Swiss bond markets are in negative yield territory, as is half of global corporate investment-grade debt outside the US.
I know we have often looked at this kind of reversal, where critical investments are seemingly underwater yet there appears to be little alternative.
Without wanting to simplify too much, pension schemes and insurers rely on being able to hold bonds as the foundation to enable them to meet their liabilities.
That isn’t going to change, even in the long-term. But what does change is market conditions. This brings me back to an old saw of mine but one worth repeating: hedging, in some way, shape or form, can help to protect you and even offer an opportunity because those conditions change.
If change is on the cards, we can again look to the East for a clue.
One development caught my attention but it was an anecdote, rather than analysis. A former colleague, who is Chinese, had travelled back to Hunan to visit family. At a restaurant some distance from the nearest large town, he tried to pay for a meal with cash but was told he would have to use his smartphone.
In an age where harassed waiters in the UK can still ask you to step inside so the card machine will work, he was at first nonplussed but then realised that China’s 5G network had huge coverage and scale.
Put to one side the security issues which have been well aired. This is more about the move to a cashless economy. This is happening in some pubs and coffee shops in London, which no longer accept coins or notes but what this presages is something else altogether.
And I found myself thinking that if, in the coming decades, this capability will morph into something else entirely, a kind of crypto-currency or unit of value turbo-charged by the size of the Chinese economy and population, will it come to be something to rival the might of the US dollar?
Niall Ferguson put it better than me in this Sunday Times opinion piece. Despite his piece sitting behind a paywall it seems to me (with due modesty!) that he read my mind by identifying the enormous potential power of China’s payment platforms. One passage stands out from this insightful piece:
“One emerging market at a time, China is building a global payments infrastructure. Right now, the various systems are distinct national versions of the Chinese original. But there is no technical reason why the systems should not be linked internationally...
If America is stupid, it will let this process continue until the day comes when the Chinese connect their digital platforms into one global system. That will be D-Day: the day the dollar dies as the world’s No 1 currency and the day America loses its financial sanctions superpower.”
So if you think (and you’d be right) that today’s times really are interesting, at least they have some semblance of familiarity. What lies ahead may be totally transformative.
Jonathan Punter's blog
With 40 years of experience in the pensions world, I still have a fresh take on the market.
Read my blog for the latest insights.
Read my blog