No, they won’t arrive like the cavalry, heralded by a trumpet.
Today I’m wondering if they will arrive at all. Ever.
No Rescue — Yet.
I’m talking about the so-called Bond Vigilantes, the big institutional bond buyers who have yet to say “No” to punishing, value-thieving interest rates on our savings. Offended by artificially low interest rates, the Bond Vigilantes were supposed to come riding to the rescue, dumping their bond holdings and refusing to buy new issues until interest rates were no longer a form of legalized theft. As recently as June the economist who coined the term told Bloomberg News that he expected the Bond Vigilantes would act if inflation increased.
Well, inflation did increase.
The trailing rate for December was a singeing 7 percent. It was also the highest since June of 1982, nearly 40 years ago. Fewer than half of all Americans were even born then.
But we have yet to hear the sound of jangling spurs.
Measuring How Fast Our Savings Are Burning.
The best way to get a sense of just how much our government is stealing from savers is to calculate what would happen to one of today’s low interest rate bonds if it were priced to provide a yield equal to inflation.
Suppose you bought a 10-year Treasury bond, currently yielding 1.76 percent. For a $1,000 bond to provide a yield equal to 6.8 percent inflation, it would have to be priced down to $639, a loss of 36.1 percent, according to the bond value calculator on the dqydj (don’t quit your day job) website.
The Vanguard Total Bond Market Index ETF is currently priced to yield 1.64 percent and has an effective maturity of 8.8 years. For $1,000 invested in it, the fund would have to be priced down to $662, a loss of 33.8 percent.
In fact, the losses could be worse if bonds were priced to provide their historical “real” yield of 2 percent more than the rate of inflation. In that case a $1,000 investment in a 10-year Treasury bond would be priced down to $538, a loss of 46.2 percent, while the same investment in the total bond market index would be priced down to $568, a 43.2 percent loss.
And that’s before considering how much of your “yield” would be lost to the government for income taxes.
How to Make $1,000 Lots Less |
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| This table shows how much a $1,000 investment at current yields would have to decline in order to provide a yield equal to the inflation rate of 6.8% or the historical 2% premium over the inflation rate. (*Note: Shorter-term rates have seldom earned more than the inflation rate so that figure is not provided.) | |||
| Years | Current Yield | 6.8% Yield Value | 8.8% Yield Value |
| 1 | 0.43% | $939 | NA* |
| 2 | 0.87 | $891 | NA* |
| 5 | 1.50 | $778 | $710 |
| 10 | 1.76 | $639 | $538 |
| 20 | 2.15 | $496 | $379 |
| Sources: https://www.bls.gov/news.release/pdf/cpi.pdf,https://www.treasury.gov/resource-center/data-chart-center/interest-rates/pages/textview.aspx?data=yield | |||
There are several implications here:
Today fixed-income investing is utterly fruitless.
Today, all fixed-income investing is a commitment to a loss of purchasing power. We’ll likely do better stockpiling toilet paper, but there are limits to how much anyone needs. The only way this can change is for inflation to sink as quickly as it rose.
The longer you commit your fixed-income investment, the greater your loss in purchasing power.
A 20-year commitment, for instance, brings a loss in purchasing power greater than 50 percent. That’s the equivalent of a serious bear market in stocks.
Crazy rising prices for all kinds of “stuff” aren’t so crazy.
If you’re certain to lose purchasing power on your savings, buying cars, houses and whatever at desperation prices doesn’t seem too crazy. There’s a chance it will turn out better than an essentially guaranteed loss of purchasing power in savings.
Rising stock prices may not be so crazy, either.
While a bond is a fixed contract that can’t be changed, common stock shares are ownership in an enterprise that may be able to adapt. It might even be able to protect its shareholders from inflation.
Real estate prices aren’t what they seem.
Applying the same real purchasing power logic, if you can borrow for a home mortgage at 2.75 percent while inflation is 6.8 percent, you’re buying the house, in real money, for only 62.5 percent of its price. (More on this in a later column.)
Sources and References:
Peter Coy, “Don’t Discount Bond Vigilantes, Says Economist Who Named Them,” 6/10/2021 https://www.bloomberg.com/news/articles/2021-06-10/don-t-discount-bond-vigilantes-says-economist-who-named-them
Link to the dqydj.com bond pricing calculator: https://dqydj.com/bond-pricing-calculator/
Daily Treasury Par Yield Curve Rates: https://www.treasury.gov/resource-center/data-chart-center/interest-rates/pages/textview.aspx?data=yield
Bureau of Labor Statistics, “Consumer Price Index – November 2021,” 12/10/2021 https://www.bls.gov/news.release/pdf/cpi.pdf
This information is distributed for education purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, product, or service.
Photo by Johannes Plenio from Pexels
(c) Scott Burns, 2022
4 thoughts on “Where Are the Bond Vigilantes?”
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Scott, does this mean that if investing new money in a couch potato portfolio, one might recommend reducing the percentage allocated to BND? Perhaps from 50% to 20-30% for example, and allocating the remainder to VTI? (Alternatively some are in favor of allocating the remainder to VHT for several reasons, but that’s a separate issue i suppose…)
Thanks for continuing your insightful commentary as always!
I haven’t found or seen an answer for that yet. What we know is that in most historical periods, an allocation around 50/50 equities/fixed income has resulted in the highest probability of long term portfolio survival. It’s also likely that any change would be more than most investors want to do — it would be too much like making investment decisions.
For investors who ARE willing to make some investment decisions, I think there are three reasonable paths. But they are all “bets” which is not what Couch Potatoes do.
(1) increase equity allocation, but not to more than 60 percent.
(2) Change from a Total Market Index to a Value index. This would increase portfolio income while reducing P/E ratio.
(3) Shorten average fixed income maturity, preferably with a ladder of annual maturities.
So… are you saying we all should ditch our Margarita portfolio and just go 100% stocks? I am confused.
I’m not saying that at all. I’m saying that current government policy has made a mess of rational investing.