Monday, June 14, 2021

Inflation And Bonds

Those of us who lived through double digit inflation may easily dismiss 2% or 3% annual price increases as benign - and for as long as our money earns interest at or slightly above, that's OK.  At least we are not losing purchasing power.  Here is a chart, a reminder of what various levels of inflation does to $100 over the years.

I deliberately chose 30 years as the ending point because bonds and other such fixed income investments are heavily bought by pension funds who, by definition, have very long term investment horizons.  

Our Fed claims that CPI inflation, currently running at 5% annualized, well above the yield of 30 year treasury bonds (currently at 2.19%) and way higher than Fed Funds (essentially 0%), is just transitory.

On the chart below you can see that until now bond yields were always higher than inflation, and so were Fed Funds, for the most part.  That's what you call monetary rationality. Today, we are off the charts on loony money policy, however.

And why is the market not "killing" bond prices, driving yields higher?  Because (a) the Fed is constantly in the market buying bonds, thus supporting prices at unreasonably high levels and (b) ultra low short term rates encourage banks/traders to play the "carry" game by borrowing at near 0% and holding bonds that pay 2.19%.  That's at least 2% profit free and clear - with high market risk, of course, should bond prices drop.

But what about those pension funds, the buy and hold long term investors?  They are in a bind: what kind of pensions are they going to be giving out in the future?  As things stand right now, at minus 2.7% their $100 investment in bonds will be worth a mere $40 in real terms after 30 years !! A really terrible deal for their pensioners, criminal almost.

So, unless the Fed is 100% correct and inflation drops back to 2% or less very, very soon why would ANY pension fund want to buy and hold bonds? And, remember, they are by far the largest and most solid, real money investors in bonds - and that includes the Social Security pension scheme.


  1. My guess would be that the pension funds are never going to shift out of bonds; if they were interested in returns, they would have shifted out of bonds by now... I don't believe they are that stupid.

    Why then would they keep buying bonds?... I would say it is because their fund managers answer primarily to two criminal organizations, the white house and wall street, ... remember how the Mafia used the pension funds to fund their activities, the same thing is happening now.

    Also, I think that there is some legal requirement that they hold bonds?

    1. Pension funds have been forced to invest in all sorts of assets, from plain vanilla stocks through index funds all the way to real estate, commodities, hedge funds and venture capital. In essence, ultra low and negative interest rates leave them with no other choice. Basically, they are being “blackmailed” into assuming much more risk than is really and truly prudent.

      No one, and I mean NO ONE, remembers the “prudent man” rule, also known as the “widows and orphans” rule, anymore. Now, it’s a “beat your peer” game, leading inexorably to a vicious cycle of bubbles and collapses.

    2. love how you say no... I have to learn that myself. =)

      yes, I guess the fund managers view themselves as having no other choice; but as you said yourself, buying treasuries is also distinctly non-prudent ...

  2. btw, the projections are that New-York will be underwater in 30 years... the 30 year bond is a joke, right?

    1. Musk and Bitcoin will stop global warming, no? If not, we will all take his SpaceX service to Mars. Much drier there.. 🤣🤣🤣