Don Coxe, Chairman of Coxe Advisors, called the dawn of the bull market in bonds in 1981. Now, 34 years later, he sees it ending as bonds enter their final mania phase marked by negative interest rates. Don discusses this historic period we are now in and both the risks and opportunities he sees ahead.
Here is a partial transcript of his recent interview that aired on the Newshour page and on our iTunes page this Friday.
Jim Puplava: "For decades it seemed like a one-way trade. If you bought bonds, interest rates went down every single decade. Now we've entered an environment where they're not only low but we actually have negative interest rates. Could this be a bubble and could the bond bull market be coming to an end?
Don, as long as I've known you, you've been bullish on bonds and, to your credit, going back to 1981, you made a strategic call to get out of your gold, get out of your hard assets and buy Treasuries. It was a great move and that strategy has worked for over three decades. But you're making a different call right now—you're saying that the bond bull market is over. Let's talk about that."
Don Coxe: "Well, what I like to think of is when you know that a bull market has gone beyond bullishness and gone into mania. I nearly destroyed my career back in 1999 telling clients to get out of tech stocks. What happened is they doubled in the next 9 months, but I stuck with it and it was the right call but I wouldn't have believed that they could go to a 150 multiple on the Nasdaq.
So manias build their own momentum and to talk of manias in bonds is sort of a contradiction in terms but…what finally convinced me that things were getting out of control was a couple of weeks ago when the yield on the German 10-year bond, which is the second most important 10-year bond next to Treasuries, climbed by 18 times in one week! We went from 4 basis points to 72 basis points before coming back. So what that showed you is that this thing is out of control because if you'd ever make a prediction that there would be a time when the yield on the second highest grade bond in the world could climb by 18 times in one week, you'd say, 'Okay, this game is over. We are in an area of wild speculation.’ […]
[Most importantly] 20 companies manage 70% of the supply of bonds in the world. This is a concentration far beyond the kind of risks we had on Wall Street with the big banks having so much of that garbage that had been created in the housing boom. So what we've got here is a situation where there's a squeeze and people are rushing out of other assets into these bonds where they have no chance of making money and they have a chance of losing fabulous amounts of money…
So, we’re in the final phase of this…and it was really startling when last week it was revealed that of the corporate bonds issued in the last 12 months, 60% of junk bonds have what's called cov-lite or light covenants. Now, it used to be that less than 10% of them had that. That means that these are bonds that can be issued where if something goes wrong you can't get the company to buy them because they don't have a covenant to do anything in the meantime to protect you. So that's also a sign that the kind of mechanisms within the bond market to reduce risk have been thrown to the four winds.
Putting it all together the bond market is the center of risk now. Of course, what you don't have is a 10-year Treasury that's going to collapse as opposed to a Nasdaq stock at 120 times earnings but because for so many pension funds and individual investors having bonds was a point of stability...it’s no longer a source of stability, it's a source of instability."
Jim: "I want to come back to something you said earlier and that is that the vast majority or 70% of the holdings of bonds globally are in the hands of 20 players. To me that spells a lot of risk, Don, in the sense that if you have 20 people who own the vast majority of bonds and you want to get out of that position, who do you sell to if everyone wants to get out at the same time? Who are going to be the buyers?"
Don: "You've summed it up. What happens is you find in any runaway bull market, the question is when you sell, who do you sell to? It has not been that way with bonds since 1978…when you could have Treasuries falling without bids by several points in a day. It was a really scary period of time…
It's been so easy to sell bonds and when it switches and people start to realize it's a risky asset class, what you're going to see is huge spreads developing and so the advice we've given is not that you panic on this but to understand that the main challenge to the stock market will come not from the stock market itself, but from the bond market, which will give a boomerang effect into the risky areas of the stock market…
More than 100% of corporate cash flow at the moment is being used in this country to buy back stock and that means that if companies continue to buy stock and support their stock they won't have that kind of support in the bond market because the Fed has quadrupled its balance sheet and is not going to be expanding it and those 70 percenters out there, they can only sell to each other because there aren't any other big buyers out there.
I have not in my lifetime (and, by the way, I'm a historian as you know) seen nothing of this character ever. We've gone to the lowest levels for the British Gilts—those are 50-year bonds issued by the UK government—they were the standard bond of the world until WWI. We went to a new low in yields there. Imagine that! Because, remember, in the last 50 years of the 19th century you had four separate depressions occur but the interest rates didn't go back to where they are now. There's not much room on the downside on yields but what you cannot see is what the restraint is on the upside. And since nobody who's managing bonds now has had experiencing with managing bonds during a depression, it's going to be a tough period..."
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