The Fuse is Lit

By Bill Bonner, Chairman, Bonner & Partners:

We’re not the only ones giving Neanderthal advice about holding on to physical cash. British newspaper the Telegraph reports:

The manager of one of Britain’s biggest bond funds has urged investors to keep cash under the mattress. Ian Spreadbury, who invests more than £4bn of investors’ money across a handful of bond funds for Fidelity, is concerned that a “systemic event” could rock markets, possibly similar in magnitude to the financial crisis of 2008…

The best strategy to deal with this, he said, was for investors to spread their money widely into different assets, including gold and silver, as well as cash in savings accounts. But he went further, suggesting it was wise to hold some “physical cash,” an unusual suggestion from a mainstream fund manager.

The Fuse Is Lit

The markets seem to be in wait-and-see mode. Yesterday, we were waiting to see what happens in Greece. Today, we wait to see what happens in the bond markets. We watch them like we watch a stick of dynamite. For a long time, it might sit there… silent… still…

Then all of a sudden – kaboom!

At the end of January, it looked as though bond yields had finally found their bottom. With $5 trillion of sovereign debt trading at negative yields, bond prices began to fall. And yields, which move in the opposite direction to prices, started to rise.

Not for the first time did we think: The fuse is lit!

We were 33 years old when this bond market made its last turn. The yield on the 10-year Treasury bond hit a high of almost 15% in 1982. Yields have been trending downward ever since. If we had only imagined what would happen next!

“My partner knew someone who was managing money,” a friend recently told me, describing how he got rich. “So we decided to put our money with him. I had never heard of him. But his name was Warren Buffett.”

Either by genius, luck, or a little of both, Buffett was in the right place at the right time.

In retrospect, it seems so simple, so obvious. The feds had changed the money system 10 years earlier. Now, the payoff approached. Without the discipline of the link with gold, the financial industry could run wild. It could lend money no one ever made and no one ever saved.

It could lend trillions of dollars that it created out of thin air. And as long as yields were falling, it scarcely had to worry about credit quality. If a borrower got into trouble, it could lend him more… at a better rate.

From 1949 to 1982 bonds were in a bear market. Yields went up, as bond prices trended downward. Then the 10-year Treasury note bottomed. Since then – most of my adult life – there’s been a bull market in bonds.

The Biggest Story in America

Falling bond yields and rising credit have affected almost everyone and everything in the economy ever since. Falling bond yields mean borrowing costs come down throughout the entire economy. As it becomes cheaper to borrow, people refinance old debt and borrow more. They buy consumer goods.

What was the biggest retail story in America? Walmart. It sells huge volumes of (often Chinese-made) merchandise at Everyday Low Prices. All you had to do was to buy Walmart, sit tight, and let the credit-fueled boom do its work. You could have bought a share of Walmart for $42 in 1982. Today, that share sells for $72.

But wait… That is after the stock split, 2-for-1, seven times! This is a challenge to our math skills, but we think that roughly equals a return of $20,000 for every 100 invested.

And an even bigger beneficiary was the financial sector. Thirty years ago, it accounted for about 10% of U.S. corporate profits. Today, it’s over 30%. This illustrates the phenomenon known as the “financialization” of the U.S. economy. Instead of producing things to make money, the focus shifted to lending, speculating, and making money from money.

New Money

Behind this phenomenon was something almost no one noticed – a new kind of money.

The new dollar looked just like the old dollar. You could spend it just like the old dollar. You could fold it, lend it, borrow it, and save it – just like the old buck. Who noticed that it wasn’t the same? And who cared? If it looked like a duck, waddled like a duck, and quacked like a duck, it must be a duck, right?

And now, 44 years after this new money came into being, and after credit expanded by about 50 times… so much that the whole world is saturated by it… drenched in it… soaked to the bone…

Now we are told that this strange money is precious, and that we should hold some of this cheap money, at home, where we will have access to it in an emergency… Does that really make sense? More to come, of course. By Bill Bonner, Chairman, Bonner & Partners

“It’s time to get off the train and stay off the train.” Read…  Is This What Our Bond Bear Market Already Looks Like?

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  8 comments for “The Fuse is Lit

  1. matt says:

    Article I came across on ZH today stated that a near record amount of stocks where sold last week by normal people and bonds are being dumped at a record pace. We are now entering the blackout period for stock buy backs during earnings reporting season. My gut tells me we are about to enter the point of no return

    • Larry says:

      Well the Fed could come out with comments and rally the buy the dips people. Would be scary if the Fed did come out and people still sold for awhile. But will the punch bowl ever go away?

  2. Gil Obrero says:

    The problem I see is this, despite all the talk of the end of the bold run and now it will reverse, I contend that in fact that is impossible.
    Sure you will get some rallies, but that simply an expression of the market yearning for higher rates, but the real problem comes when you ask each dollar lent to return more than a dollar.
    For that to happen, and for the return to increase to cover the increase in yields, would need that lent dollar to be invested more wisely, safer and in a way that can produce a higher return.

    With such a vast amount of credit in the world, and at such low quality, how do you start to get good money in the system financing good deals and drive out the bad money financing bad deals.

    The fact is that cannot d that until such time as the bad money is liquidated to such an extent that there is an opening for good money, and the liquidation can only take place as investors lose their shirts, but the extent that investors now need to lose their shirts, is not a mere correction as happened before.
    This time is is the pants shoes socks and underwear they need to lose.
    They will all be standing naked, as the bad money is now entrenched in every part of the economy in every part of the western world.

    Deflation, which is where we are now is the only realistic option for investors, where costs and prices fall and allow a potential for a real return, but that exacerbates risk so yields need to rise on loans to avoid that, but loans rates cannot rise as that will increase risk more.
    But as deflation continues it does clear some of the dross and deadwood, such as the fracking boom that’s getting liquidated and shipping too. This is going to burn off some excess capacity, but whats left whilst there is still over capacity, will reduce prices further as input costs fall too and so deflation will accelerate.

    A point will come where the risks inherent to investors whilst this accelerating deflation period means that will start to chase other assets, and that will be back to bonds. driving yields lower again.
    That’s when the stock markets begin their 2 to 3 year or more descent to purgatory, probably giving up more than 70 % I would think this time around.

    But the economy will now be in full accelerating collapse, so the end game begins.

    Massive printing, and massive inflation to coincide with the beginning of the end of over capacity..

    That will finally burn off the credit oversupply as debt becomes worthless, but at what cost, and which countries will avoid the Zimbabwe final solution, and which will squeak by.

    And who will rather go to war than lose power and wealth as the great unwind continues.
    Well we know one already so far down the road to bankruptcy that they are getting desperate to start a war, any war.

    But the start of a long bond bear market. not a chance

    • NotSoSure says:

      I agree that war will be the denouement to all this. The sad part is that American’s “enemies” i.e. China and Russia do not have to win. A tie would ensure the collapse of America’s hegemony in the world and by its extension the US Dollar system and thus the economy.

    • Michael Gorback says:

      I think a bond crash is very possible, in the form of a flash crash. There is very little liquidity in the bond market and if investors panic they will all be squeezing through a very small door. You can see this everywhere as bond prices rock violently (for bonds) this year.

      Personally, I’d take that as a buying opportunity after the dust settles since the underlying dynamic around the world is still deflationary.

      Later on, when deflation has bottomed out, there will be a long bond bear market. Really long.

  3. Michael Gorback says:

    BTW, I can’t help but notice the increasing drumbeat about physical cash. On the government and banking side (are those two sides or just one?) you have drumbeats about how antiquated cash is and how we need to get rid of it. On the other side, you have others who warn that it’s not only a power grab but that there’s a strong possibility that you might want to have some physical cash (as well as PM) on hand.

    I get the feeling that someone, somewhere in the power structure, sees a strong possibility of a run to physical cash and that it is terrifying to consider.

    • Petunia says:

      There is no reason not to be in physical cash. When the SHTF do you really think people will be trading stocks and bonds for food, medicine, and protection. Even physical gold and silver will be hard to use. The loonies in DC think that a war will cover up all the corruption and lack of real value in the economy. It won’t. It will just bring the chaos we export here. How much will your house, condo, and 401K be worth then.

  4. Julian the Apostate says:

    Bad money drives out good. This is especially true now in the “new normal” when ALL the currency is bad. If the system is collapsed by any number of events from a worldwide Carrington event up to a nuclear war, or just simple seizing up of the financial machinery, what you’ve got is what you’ve got. All that can be done is to diversify into the 4G’s – gold, guns, grub and ground as you can afford now, while the Monopoly money and the supply chain lasts. Everybody is now operating in JIT mentality, never even considering that it could be disrupted overnight. It’s been that way all their lives and will always be there. It’s all taken for granted in spite of the ‘alarmists’ among us like Brother Wolf. At first there will be a run on the stores, then the warehouses will be emptied in 3 days time, then food riots in the streets. Let us hope it doesn’t come to that, BUT IT CAN. Now the tinfoil hat warnings are beginning to creep into the mainstream media, but they will be ignored as well, blasted as traitors. Who was I to know? NOBODY SAW THIS COMING. And you know what? Reality will not give a tinker’s dam.

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