There is now about $17 trillion worth of bonds paying (collecting?) negative interest rates on a global scale.
The whole financial system has largely been in uncharted waters since the financial meltdown of 2008. With widespread negative interest rates, it is hard to know what to expect.
The crazy thing is that these negative yielding bonds are not a third-world phenomenon. In fact, two of the largest economies – Germany and Japan – have negative interest rates even on their long-term debt. The interest rate on a 30-year German bond recently went negative.
I thought it was insane looking at 10-year bonds with negative yields. Now we are looking at the prospect of negative yields for 30 years. Imagine sending your money off for 30 years, only to get less of it back at the end. You better hope for major deflation.
If you want to look at something even more insane, Austria issued 100-year bonds, which are now yielding close to 1%. For 100 years, I wouldn’t trust getting any of my money back, regardless of inflation. What are the chances that Austria doesn’t default on this? What are the chances that Austria still exists in its current form in 100 years? I hope the children and grandchildren of these bondholders have good record keeping.
So why would anyone buy a bond that matures in 100 years? The obvious answer is that they don’t intend to hold it for 100 years. It is something of the greater fool theory. And if they think 1% per year is the best they can do over the next 100 years, that is a sad look into the future.
Chasing Yield
There is obviously a major problem around the world right now. The United States has major problems, yet looks so much healthier (economically speaking) than almost everywhere else. Maybe Singapore is in better shape, but I am talking about the major countries with significant populations.
There is a stock bubble and a bond bubble. I expect the stock bubble to pop first. The bond bubble may get even bigger when the stock bubble pops. The bond bubble will eventually pop, but it is hard to say when.
People are chasing yield. Savings accounts pay almost nothing. It is a victory these days when you can buy a Treasury bill for 2%, which probably doesn’t even keep up with price inflation.
The yield curve is currently inverted. The yield on a 30-year U.S. government bond is lower than a one-month Treasury bill. This indicates serious problems ahead. There is going to be a massive correction.
I believe that the low yields over the last decade have contributed to the stock bubble. Investors are chasing yield. Probably the least risky investment with the potential of significant returns over the last decade has been real estate. But most people don’t have enough money to buy investment real estate, and they don’t like the idea of being a landlord.
That leaves stocks. Investors have to take the significant risk of buying stocks in order to hope for any kind of decent return. It has worked up until now.
But being heavy in stocks is risky. Even if you buy a broad-based index fund, it doesn’t take away the risk. Sure, the risk is lower than owning one individual stock, but you can still lose a lot.
The problem is that it is an overall stock bubble. It isn’t a bubble in just one stock, or even just one sector. That is the mark of a recession coming. Nearly everything goes down in a recession. This is the artificial business cycle. It is called artificial really because the boom is artificial. The boom is not fully real. It is an illusion based on easy money and artificially low interest rates, which were particularly prevalent from 2008 to 2014 in the U.S.
The Austrian Business Cycle Theory explains the artificial boom and bust. The Austrians buying 100-year bonds are probably not too familiar with this theory. It helps explain why the bust is a widespread correction. Some industries may bust more than others, but it is still widespread. This is because of the tampering by the central bank of the money supply and interest rates. Since money makes up at least half of nearly all transactions, it is vitally important in the economy. If interest rates are sending the wrong signals, massive distortions will occur.
Shifting to Gold
Gold has had a good run lately. Maybe it would be more accurate to say that currencies have had a bad run lately. Gold has shot up past the 1,500 mark in terms of U.S. dollars.
I think that people are eventually going to come to their senses and realize that these negative interest rates make little sense. There are going to be defaults eventually, maybe even by major governments. There are already major defaults in the sense that inflation takes away any potential returns. Even in the U.S., where nominal interest rates are positive, the real (inflation-adjusted) return is flat or negative.
When stocks pop and bonds begin to pop, then people are going to be seeking safety for their money. This will be especially true if central banks react with more digital money printing, which is a rather safe assumption.
In some countries, the bond bubble will pop just with yields returning into positive territory.
Where will people go for safety and security? The obvious answer is gold. That is what gold is known for. It was a form of money for thousands of years. Now it is like an insurance policy.
But for those who got in early, this insurance policy could be profitable. Even just marginal changes in the number of people interested in buying gold could mean a big boost. The paper or physical market in gold is nothing like the bond market or stock market. It won’t take as much to move gold much higher.
Silver has also been showing signs of life. I think there are bigger profit potentials in silver than gold. You could see silver go to many multiples of what it is now in just a few short years. But it comes with the risk. Therefore, I still tend to favor gold over silver. Central banks buy gold, and it is more stable.
If you want to split up your investing in metals (and insurance), then maybe go with 10 to 20 percent in silver and the rest in gold. I think this is a good balance.
Just remember that gold and silver will have their bubble eventually too. We have seen it before. It is appropriate to take a little off the table on the way up, but you also want to make sure you have a significant portion for the full ride.
Gold will have to get way past its all-time nominal high before I would consider doing anything in terms of selling. Even then, I would be looking at $4,000 to $5,000 per ounce before taking anything significant off the table. That would even depend on how things look and what the Fed is doing.
We really have no idea how this whole stock and bond bubble will play out. We have no idea how the U.S. government and other governments will handle it. We have no idea how central banks will handle it except for likely creating more money out of thin air.
Despite the uncertainty, I do expect gold to shoot to new highs in the next few years, if not sooner. Gold would typically go down in a recession, especially in a recession with little fear of inflation. But with negative yielding bonds, I don’t think the price of gold will stay down for long. People will be looking for someplace safe to put their money.