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Who's Afraid of the Big Bad Taper?



December 09, 2013 – Comments (5)

Board: Macro Economics

Author: EddieLuck

Not me. I think that, for multiple reasons, Long term, high grade credits are well priced for purchase here. I don't see any clear reason why the start of tapering will send interest rates up. Here are the reasons:

-At the end of QE1 and QE2, interest rates fell after the end was announced.

-The "taper tantrum" raised rates enough to reflect QE2 being cut in half at least.

-I see no signs of the US economy reviving fast enough to generate its own momentum and break free of govt. "stimulus". For instance the labor participation rate is still falling, and jobs are still down three million from the peak, while the new jobs are not well-paid and the working-age population has grown by millions.

-We are doing what Japan did during their disinflationary economic slowdown, and long term JGBs were the outstanding investment in Japan for twenty years after their market crash.

-The reasoning that everyone is forgetting is this. 1) If and when a nation's central bank stops a massive printing/govt. debt monetizing program, that reduces the threat of future inflation, supporting bond prices. 2) Some think that QE accelerates economic growth. If true, stopping QE will slow it. Again, good for bond prices. 3) QE is bad for the value of a nation's currency. Stopping QE would be positive for the dollar, making long treasuries safer investments and encouraging foreign buyers.

-While most market gurus are predicting higher rates in the near future, and everyone is panning long bonds, calling them "certificates of confiscation", there are attractive yields available for those who think disinflationary times are likely to continue for a while, as I do. That is, I think the market is oversold with the 30-yr. treasury rate at a little more than 3% above the cpi-u, which is itself falling lately. This is towards the low end of its typical price range, which was clearly demonstrated in a couple of Wendy's posts here years ago. It is this low because of a herd opinion that the economy is going to revive strongly with rates rising strongly, and the fed withdrawing its loose money. I think the crowd is wrong on this for the time being.

The fixed income I have been buying so far mostly consists of 29 yr. treasury bonds and the preferred stocks of REITs with strong balance sheets, both of which are now available at pretty nice discounts to par (redemption) value.

I don't think the fed will stop QE3 for a long time although they may raise or lower it along the way. Hyperinflation/currency crisis still seems the most likely end result, but as long as Japan still stands I think that it will not start in the US, so when Japan falls apart it may be time to dump US fixed income. When my short yen/short JGB trade starts paying off, it will be time to review my US fixed income. When world markets start to see actual consequences of fiscal and monetary madness in Japan, attention will turn to other countries to see who is next. There are already a number of excellent candidates in line to follow Japan into currency crisis/hyperinflation. The PIIGS for a start.

While the POMO-fuelled short yen/long stocks trade is still the mania-du-jour, and getting rather long in the tooth, the rush into this trade has created a little vacuum in bonds I think. During manic market periods opportunities often arise in unpopular market segments, just as during the TMT bubble some great buying opportunities occurred in fixed income of many kinds, REITs, PMs, TIPS and so on. Obviously we do not have such widespread and obvious value opportunities as existed around 1999, but we may see them develop more if the Nikkei and the SPX continue to soar to new heights.

Good luck,


5 Comments – Post Your Own

#1) On December 09, 2013 at 5:23 PM, constructive (99.96) wrote:

"Not me. I think that, for multiple reasons, Long term, high grade credits are well priced for purchase here."

Only if your required rate of return is quite low.

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#2) On December 09, 2013 at 11:42 PM, awallejr (36.64) wrote:

Define "quite low."  Tapering isn't happening until at the earliest in March of 2014.  The main reason is the Fed will want to see the January/February data and Bernanke will defer to Yellen.  If employment numbers are strong then a start to taper will occur.  If not, it won't.

But even with a tapering ( I so hate that term since I have heard  it for 6 months now, I stopped listening to Bloomberg radio because of it, except Pimm Fox, but I digress) the Fed fund's rate is still being kept low.  Hence any interest rate increase will be minor at best.  Really you like maybe 4-5% Tbills over 8-10% BDC, MLP and REIT rates (excluding Mreits which I would avoid until the dust settles and they stop lowering their distributions)?

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#3) On December 10, 2013 at 12:43 AM, constructive (99.96) wrote:

That quote is about credit specifically, not equity or partnerships. There is no such thing as a high grade credit paying 8%.

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#4) On December 10, 2013 at 12:54 AM, awallejr (36.64) wrote:

Well alot of CEFs paying that.  Check the Nuveen line such as JPS etc.  I think you are being picayune on the quote nor are you adressing his arguments.

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#5) On December 10, 2013 at 11:43 AM, constructive (99.96) wrote:

JPS isn't credit either. It's primarily BBB preferred stock plus 30% leverage.

I can't claim any expertise in predicting interest rates. I can look at yields and figure that there are still plenty of equities, equity like securities, foreign debt, distressed debt, peer to peer lending, etc that look cheaper than high grade credit.

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