Thursday, April 01, 2010

Why the Bond Market Prefers Buffett to Obama

"I used to think if there was reincarnation, I wanted to come back as the president or the pope or a .400 baseball hitter. But now I want to come back as the bond market. You can intimidate everybody."

- James Carville

That's one of my favorite financial quotes of all-time, courtesy of James Carville, a line he busted out during the start of the Clinton Administration. Carville was in awe of the power of the bond market...he couldn't believe that simple bond traders could hold power over the almighty hand of government!

But where are the bond vigilantes today? Are they circling the wagons, preparing to lay the smack down on irresponsible fiscal policies? Read on as guest author takes a look at what the bond market is saying today...

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Bond Market: “It’s Safer to Lend to Buffett than Obama”

By Chris Wood, Casey Research


A few weeks ago, the Federal Reserve released the new Z.1 Flow of Funds document, which covers flows and outstandings through the fourth quarter of 2009.


What does the document reveal?


You guessed it – more of the same reckless behavior that got us into this mess in the first place.


While households and businesses were able to shed debt across the board, increases in local, state, and federal debt outstanding were enough to bring total debt outstanding to a new all-time high, over $34.7 trillion, if you can believe it.


Consider some of the salient statistics from the Z.1 document:


· Total household debt outstanding shrank by an annualized 1.2% in the fourth quarter, while total business debt outstanding declined at a 3.1% annualized clip.


· Combined, total household and business debt outstanding fell to $24.535 trillion, reflecting an annualized decline in the fourth quarter of 2.1%.


· State and local government debt outstanding climbed by an annualized 4.7% in the fourth quarter, while federal government debt outstanding increased at an annualized rate of 12.6%.


· Combined, state, local, and federal government debt outstanding grew to a record-breaking $10.168 trillion, reflecting an annualized increase in the fourth quarter of 10.7%.


So, while consumers and businesses are acting at least somewhat more responsibly, governments at all levels grow more reckless every day. And don’t think this has gone unnoticed by others.


At the federal level, we can see that the bond market is growing increasingly wary of the government’s spendthrift and “kick the can” attitude.


A March 22 article from Bloomberg titled “Obama Pays More Than Buffett as U.S. Risks AAA Rating” reveals that two-year notes sold in February by Warren Buffett’s Berkshire Hathaway yield 3.5 basis points less than Treasuries of similar maturity.


While 3.5 basis points is not a huge amount (100 basis points equals one percentage point), the simple fact that the bond market is saying that it’s safer to lend to Warren Buffett than Barack Obama is telling.


And Buffett is not the only one enjoying this safer than “risk free” rate on his notes. Procter & Gamble Co., Johnson & Johnson, and Lowe’s Cos. debt also traded at lower yields than Treasuries of similar maturity in recent weeks, a situation former Lehman Brothers Holdings Inc. chief fixed-income strategist Jack Malvey called an “exceedingly rare” event in the history of the bond market.


Rare as this situation may be in historical terms, we expect to see lots more of it in the future.


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Ed. Note - I have been a Casey Research subscriber and affiliate for several years.

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