Tuesday, March 6, 2012

Are We Facing A Bond Shortage?


It seems absurd to suggest in a world awash in debt that investors might actually face a shortage of debt issuance.


Yet in the past couple of days there have been several reports that higher quality paper - in particular US Treasurys - have experienced strong demand from a variety of different investors despite record low yields.

Here, for example, is an excerpt from a piece on Bloomberg yesterday:

For all the concern that the $10 trillion market for Treasuries is dependent on Federal Reserve purchases to absorb a continually expanding supply of debt, the amount held by investors outside the U.S. has grown even more. 

Foreigners increased their holdings of U.S. government debt by $1.84 trillion to a record $5 trillion since the Fed began the first round of Treasury purchases in May 2009, taking their stake to 60.5 percent of the securities not held by the central bank, government data show. The Fed added $1.18 trillion during that period, to $1.65 trillion, or 16.8 percent of the total, from 7.6 percent. 

http://www.bloomberg.com/news/2012-03-05/aaa-shortage-drives-up-international-holdings-of-treasuries-to-5-trillion.html

The Bloomberg article goes on to note that the amount outstanding of all types of marketable debt has fallen significantly during the past year:

 Net U.S. fixed-income issuance, including everything from Treasuries to corporate bonds to mortgage-backed securities, is forecast to fall to $520 billion this year from $1.2 trillion last year and $2 trillion in 2010, according to a Jan. 6 Credit Suisse report. The bank’s U.S. interest-rate strategists forecast net borrowing will rise to about $967 billion in 2013. 

Then, in an article published in yesterday's Financial Times, there was this report:

Given that the {European Central Bank} funding costs 1 per cent, compared to yields on senior debt of 3.5 per cent, some believe many {European} banks will simply let much of their senior debt mature, starving the market.  With the bank sector accounting for 46 per cent of the European corporate debt market, this could create problems for pension funds and insurance companies, which have little choice but to hold corporate debt for regulatory reasons, as well as other investors.

http://www.ft.com/intl/cms/s/0/c4a59556-63b8-11e1-9686-00144feabdc0.html#axzz1oLUaTe6p

This combination of strong demand for debt, combined with a gradual shrinking of the global debt markets, could help explain the conundrum of steadily falling interest rates at a time of a gradual improvement in overall economic conditions.

But I still like stocks better, especially if we are starting to get the long-awaited market correction.