The sur­pris­ing mes­sage from bonds about a Trump pres­i­dency

Daily Freeman (Kingston, NY) - - BUSINESS - By Bernard Con­don

He’s called the spi­ral­ing fed­eral debt a dis­as­ter, leads a party of avowed fis­cal hawks and has promised to bal­ance the bud­get.

But if you ex­pect Don­ald Trump to act as a model of fis­cal rec­ti­tude as pres­i­dent, the bond mar­ket has a mes­sage for you, and a very Trumpian one at that: “Wrong!” In­vestors have been yank­ing money out of bonds around the world since Trump’s vic­tory be­came ap­par­ent early Wed­nes­day, send­ing prices tum­bling and wip­ing out sev­eral months of gains. They ex­pect higher debt, higher in­fla­tion and higher in­ter­est rates — all neg­a­tives for bonds.

Bond in­vestors can get things hor­ri­bly wrong, and it’s only been a few days. But for a nor­mally calm mar­ket, a sort of sleepy cousin of the stock mar­ket that has been mostly ris­ing, it’s been a stun­ning turn of events.

“The bond mar­ket is sup­posed to be a dull, bor­ing, sta­ble place,” said Colin Lund­gren, head of U.S. fixed in­come at Columbia Thread­nee­dle In­vest­ments. “In­stead, it’s been at the cen­ter of the storm.”

Af­ter years of too lit­tle in­fla­tion, in­vestors are wor­ried that Trump will in­ad­ver­tently kick off too much and send the na­tional debt up sharply. If that hap­pens, he could do some­thing long fore­cast, and much feared: kill off the three-decade­long bond bull mar­ket that has lifted prices so high, and pushed bor­row­ing rates so low, many ex­perts think it’s a bub­ble ready to pop.

In­vestors are de­mand­ing more in­ter­est to lend to the U.S. gov­ern­ment now be­cause they fear higher in­fla­tion is com­ing as Trump opens the spend­ing spig­ots to get the econ­omy to grow faster.

He’s promised to de­liver 3.5 per­cent growth a year. That is much faster than the av­er­age 2 per­cent or so re­cently, and higher than many economists think pos­si­ble on a sus­tained ba­sis.

To get there, Trump says he’ll slash reg­u­la­tions and taxes, and use fed­eral tax cred­its to gen­er­ate $1 tril­lion from pri­vate sources to fix and ex­pand the na­tion’s roads, bridges, air­ports and tran­sit sys­tems. That has helped send stocks higher in an­tic­i­pa­tion of big­ger cor­po­rate prof­its.

But the country will likely need to bor­row more un­der Trump’s plans — a lot more, ac­cord­ing to es­ti­mates from the non-par­ti­san Com­mit­tee for a Re­spon­si­ble Fed­eral Bud­get. It says the com­bi­na­tion of higher spend­ing and lower taxes will add $5.3 tril­lion to the na­tion’s debt over the next decade. That is on top of the nearly $20 tril­lion in debt that bal­looned un­der Pres­i­dent Barack Obama and his pre­de­ces­sor Ge­orge W. Bush.

The Trump cam­paign says his spend­ing won’t be a prob­lem be­cause faster growth will in­crease tax rev­enue even at lower rates.

Michael Le­witt, a bond fund man­ager who says he voted for Trump, isn’t buy­ing it.

“Cut­ting taxes and spend­ing more money and not re­form­ing en­ti­tle­ments, that’s go­ing to send debt through the roof,” said Le­witt of the Credit Strate­gist Group. “The mar­ket is say­ing he is not go­ing to worry about this, and that’s go­ing to be bad for bonds — re­ally bad for bonds.”

An­other pos­si­ble prob­lem for bond hold­ers is Trump’s pro­tec­tion­ist lean­ings.

On the cam­paign trail, he threat­ened to slap tar­iffs on Chi­nese and Mex­i­can goods and rip up trade pacts. If he fol­lows through, that could stoke in­fla­tion by send­ing prices of im­ported goods sharply higher.

Bond in­vestors loathe in­fla­tion be­cause it erodes the pur­chas­ing power of their fixed pay­ments.

A lit­tle more in­fla­tion might be a good thing, of course. If any­thing, the world has been suf­fer­ing from too lit­tle of it. Con­sumer prices have risen 1.5 per­cent in the past year, about a half point lower than what is con­sid­ered the ideal level.

Higher in­fla­tion is usu­ally a sign of faster eco­nomic growth, and it has a way of build­ing on it­self. It causes peo­ple to spend right away on things out of fear they might have to pay more for them later, and that can stim­u­late even more growth.

But it’s hard to con­tain in­fla­tion once it starts revving up. A Trump pres­i­dency, some in­vestors think, makes it more likely the Fed­eral Re­serve will raise short-term bor­row­ing rates next month to keep prices from ris­ing too fast.

What makes this all un­nerv­ing is that the bond mar­ket is such a frag­ile place now.

The in­ter­est that in­vestors are get­ting on some gov­ern­ment bonds is lower than it has been in hun­dreds of years. Even a lit­tle more in­fla­tion could wipe out gains from col­lect­ing that in­ter­est over the life of their bonds, and so many in­vestors are jit­tery and have moved fast to dump their hold­ings.

That is what hap­pened in trad­ing in the U.S. gov­ern­ment bonds in re­cent days. In­vestors dumped Trea­sury notes due in 10 years, send­ing their yields soar­ing from 1.75 per­cent to 2.15 per­cent in just 36 hours. It typ­i­cally takes many months for yields to move that much.

All this would be bad enough if there wasn’t so much debt at risk now. In the eight years since the peak in bor­row­ing be­fore 2008 fi­nan­cial cri­sis, gov­ern­ments, house­holds and com­pa­nies around the globe have taken on an­other $69 tril­lion in debt, a jump of 53 per­cent, ac­cord­ing to McKin­sey Global In­sti­tute.

Given the com­pli­cated global web of bond trad­ing, the dan­ger is that a sud­den drop in the price of bonds could trig­ger sell­ing across mar­kets and for many dif­fer­ent kinds of as­sets. In the 2008 fi­nan­cial cri­sis, a drop in the value of mort­gage bonds sent the prices of stocks and other bonds plung­ing as in­vestors scram­bled to raise cash by sell­ing even things they thought were fairly priced.

Of course, bond in­vestors could be get­ting the Trump pres­i­dency all wrong, and quickly start buy­ing bonds they were just sell­ing.

A Repub­li­can Congress might re­ject or at least limit any Trump stim­u­lus that would en­tail gobs of ad­di­tional spend­ing and bor­row­ing. And just how much Trump wants to spend is un­clear be­cause he was so vague on the cam­paign trail about his plans, and he has no po­lit­i­cal record.

James Abate, chief in­vest­ment of­fi­cer of Centre As­set Man­age­ment, says bond in­vestors have plenty of rea­son to worry, though. It’s not just Trump’s cam­paign prom­ises. He spent his busi­ness ca­reer, af­ter all, as a de­vel­oper putting up build­ings, and bor­row­ing a lot to do it.

“Project what he’s done his en­tire life­time, and think of that on gov­ern­ment level,” said Abate. “He’s go­ing to is­sue debt, and that is what the bond mar­ket is spooked about.”

RICHARD DREW — THE AS­SO­CI­ATED PRESS

In this Nov. 9 photo, An­thony Ric­cio, cen­ter, works with fel­low traders on the floor of the New York Stock Ex­change. In­vestors have been yank­ing money out of bonds around the world, send­ing prices tum­bling and wip­ing out sev­eral months of gains in widely held U.S. gov­ern­ment debt since the elec­tion.

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