Losing it

Yesterday we called out, humiliated and publicly flogged savers. After all, what are they thinkin’? Rates of return on savings accounts, less inflation, are roughly zero. And going lower. Plus, outside of a TFSA or RRSP, that piteous little spec of interest is fully taxable. So unless you already have all the money you’re likely to need in the future (which is almost nobody) then saving in a HISA or a GIC is suicidal.

Having said that, (a) more than half all TFSA money is in brain-dead savings vehicles, and (b) savings rates are circling the drain, and (c) the number of savers is falling fast. The legion of borrowers, on the other hands, is overwhelming. Conclusion: it’s a losing battle.

Yikes. Look at this:

As you know, the world ‘s now sinking into a vat of negative returns on bonds and everything they influence. As bond prices rocket higher, yields plunge lower. Savers are being brutalized. Investors with balanced portfolios have reaped the rewards. A bond ETF I referenced here the other day has shot ahead 12% in a year, outpacing even equities. Those blog geniuses who dissed bonds for the last few months, telling you to dump them, are now crunching crow.

Veteran Bay Streeter Ed Pennock had a few interesting words on this today:

Almost a third of the tradeable bonds bear negative rates. Think of the Bull market that hasn’t quit. Buying bonds has been a great strategy. A 60/40% asset allocation has captured much of that upside. The 10 Year Treasury is at a 1.59% yield. The 30 year is at 2.04% yield. It had hit a record low of 1.91%. Some forecast the 10 year falling to 1.25%. And for example, the Triple C junk bonds Trade “8” percentage points above the double B’s. Clearly, there’s a flight to quality everywhere. That translates into US asset purchases by everyone out there.

Wailings from the steerage section show most people still misunderstand bonds. They think you buy them to collect interest. How cute. For the foreseeable future, there’s no income to pocket. But bonds are assets just like equities, with prices that constantly fluctuate. When money flows into bonds (as a safe haven) the price rises. As the price goes up, the yields they pay go down. Existing bonds get more valuable as the current interest rate environment declines and new bonds are issued at lower yields.

This has reached an extreme – with bond prices so high yields have fallen to 0% or less on trillions worth of government debt. Investors are just happy to have no risk, instead of chasing returns.

Low yields kill savers. But falling yields reward bond holders. And unlike men, bonds mature. So if you hold a bond long enough, you always get your money back.

The real impact of low rates, then, is to discourage saving and encourage turning into a debt piggie. The latest numbers sure underscore that. In BC, land of real estate delusion and a negative savings rate, bankruptcies are up 11% and borrowing is out of control. People are using houses, “for all intents and purposes like an ATM machine,” says a credit counselling agency. “The reality is … they’re spending more than what’s coming in month by month until they near the limits of their credit lines and now they find themselves in the position of not being able to meet the minimum payment required on the credit line and having exhausted the limit itself.”

And here comes a new Ipsos survey to tell us how pooched your neighbours are. More and more people are borrowing against their houses to fund stuff they should buy with cash – like a vacation. “It seems there was a time not so long ago when paying off the mortgage was an important financial goal for households,” says an insolvency trustee. “But today the house is an ATM and the cash withdrawn is being used to pay other bills or to fuel household spending.”

By the way, consumer bankruptcies are not just a BC problem. In Ontario they’re up 13%. HELOC use has exploded, mostly because the cost is relatively cheap (in the 4% range) and it’s so damn easy to borrow a bundle. Bankers will quickly give you about two-thirds of the value of your home equity, then let you make interest-only payments. That’s exactly what one-in-four people do. The actual loan is never repaid. Over 40% of HELOCers don’t even make regular payments.

So, let’s summarize. Savers are being brutalized. The savings rate is at an historic low. Household debt’s hit an historic high. Borrowing continues. And plunging bond yields will make it even easier to be in hock.

How does this end?

A recession is inevitable, but not imminent. Maybe 18 months away. You will find out then. Be ready, be liquid.