Bond bubble bursts anew
Celebrations over Greece returning to bond markets mask a whole new problem: Athens hasn’t returned to economic health. Rather, it’s the bond market which has gone quite mad.
The Greek economy lies in ruins. After six years (yes, six years!) of depression, 27.5 percent of the workforce, and some 58.3 percent of youth, are unemployed. Over a quarter of the economy (26 percent) has been destroyed on the sacrificial altar of saving the flawed euro, spurring Athens’ lost decade. True, unemployment peaked nearer to 30 percent, but the economy can barely be said to be recovering with gusto… Well, unless you belong to the curious ‘troika’ tribe who promised rescue loans. Rather, their austere prescription delivered damnation.
Remarkably, ECB-EC-IMF lenders applauded last week as Greece returned to the international bond market. The curious political machinations of these unaccountable bodies meant the truth was not merely different to the PR swagger, it was quite astounding in its twisted reality. Greece has not healed its fiscal holes: the Hellenic Republic remains on life support. Investors buying this issue demonstrated a desperate market driven mad as a massive bubble inflates to bursting point.
This Greek bond wasn’t even truly Greek, being governed by UK law to help investors feel more secure that they would not be subject to arbitrary restructuring! Meanwhile, the 4.75 percent coupon placed Greek bonds back around low levels last seen just before Lehman Brothers collapsed. Therein lies a huge conundrum: the investors who bought this bond didn’t deliver a vote of confidence in the Greek economy. Rather theirs was a much more cynical calculation - buyers are gambling that having come so far, the Mario Draghi ’whatever it takes’ approach to saving the euro will be maintained by the troika come what may.
Hence this bond is not a Greek issue, but really a proxy from the troika who will guarantee euro stability by repaying the debt. The insanity of today’s bond market writ large.
This increasingly desperate ‘yield chasing’ is common when a glut of investor cash is in the bond markets struggling to find a decent return. Following years of Quantitative Easing ‘funny money’, interest rates have remained almost at zero. Banks - those medieval institutions indulged with a regulatory monopoly to store savings inefficiently - pay a pittance on Western deposits. Hence, bond investors have become restive. Like a form of fiscal wildebeest roaming the plains of financial centers, they are searching desperately for anything which can pay them a decent dividend. Thus when a basket case economy like Greece - immolated on the pyre of the EU’s vanity eurocurrency - issues a bond, investors rush in to buy what seems like a five-year manna-from-heaven deal, paying almost 5 percent per year!
Meanwhile, during 2013, US high yield corporate bonds reached a record gross issuance of $378 billion, while $455 billion issued as institutional leveraged loans also trumped the last pre-crash peak of 2007. After six years of fatuous German-led moralizing about Athenian mismanagement without permitting them an equitable chance at recovery (i.e. leaving the euro, devaluing and rebuilding afresh), the West has not merely immolated Greece, it has simultaneously permitted a frankly obscene debt bubble to flare up which now threatens a crunch at least the equal of the last government-banker fiasco.
Make no mistake: the bond market is in a frenzy. Inside the bubble, investor symptoms include desperately lunging after anything which might pay interest a fraction in excess of a few percent. Outside the bubble it is still possible to smell the coffee while gazing in horror as bond markets facilitate cheap multi-year loans to borrowers holding dubious credentials. Investors are failing to competently calculate the overall risks while regulators are, as always, ignorant of the problem.
Thus bond markets are peaking. Such a massive bubble is unlikely to be deflated elegantly. Once interest rates start edging up, the subsequent burst is likely to result in a Western credit crunch easily the equal of 2007, albeit with government without the resources to intervene defensively as it did last time around.
With worries about a new recession growing, the bond market will play a pivotal role in whether the Western economy expands, or endures another bruising fall. Confidence is fragile and bond markets have been at remarkable highs for some time. Values will return to historic bond benchmarks with interest payments well above the current bubble levels (and bond prices thus well below today’s heady values). That transition means another painful bubble bursting, which further threatens the fabric of Western prosperity.
The statements, views and opinions expressed in this column are solely those of the author and do not necessarily represent those of RT.