Weird yields for Treasuries evidence of investor angst

December 15, 2008
Here is an investment proposition: Send the government a check to invest in a U.S. Treasury bill with a guarantee that in three months you will get back less than you invested. This absurdity actually took place this month, when at one point Treasury investors were accepting a negative interest rate.

As The Wall Street Journal put it, "Investors were willing to pay $100, knowing they would get $99.99 in return, in the belief that a small but guaranteed loss was preferable to investing in stocks, corporate bonds, or other securities." One can see this event causing angst for the curators of Will Rogers' well-worn counsel on safe investing: "I'm not as concerned about the return 'on' my money, as I am the return 'of' my money."

A large number of investors are so fearful these days that they have flocked to the safest securities, pushing down interest rates to virtually nothing. A recent government auction of four-week Treasury bills sold $30 billion of the securities at a yield of zero — exactly 0.00 percent — and amazingly the demand for this offering was so strong that the nation could have sold four times that amount. Just for perspective, back in January 2007, a four-week Treasury bill yielded 5.175 percent.

"Why anyone would give money to the United States government for 30 years at 3 or 4 percent is beyond comprehension. It's clearly a bubble," snorts noted investor Jim Rogers, chairman of Rogers Holdings in Singapore. (Thirty-year Treasury bonds currently yield a bit over 3 percent.)

How does one explain such irrational behavior? For one, it is the "institutional imperative" phenomenon, whereby in such a bad year, institutional managers want to be able to show on their year-end reports to constituents that they are taking "prudent" measures to protect their funds in these difficult times. In addition, many investors are just scared and afraid to commit their funds for any length of time.

For a picture of just how risk-averse investors have become, and how fractured the fixed-income markets are, look at the record difference in yields that people are willing to accept. We have noted that short-term Treasury securities yield near zero, and 30-year Treasury bonds yield slightly more than 3 percent. Contrast that with longer-term AA municipal bonds yielding more than 6 percent tax-free. BBB-rated "investment grade" corporate bonds have yields above 10 percent, and in the junk bond category, BB-rated El Paso Corp. just issued a five-year bond with a 15.25-percent interest rate. These huge yield differences between bonds of various qualities are unprecedented.

There is a clear paradox in buying Treasuries today. Investors are flocking to Treasuries — which are considered one of the safest places to put your money — yet buyers of these securities actually are investing in one of the riskier options available to them. They are behaving like dot-com investors who bought tech stocks in 1999 near the peak of market.

The return investors will earn on their Treasury securities is almost certain to lag the returns to be achieved in stocks and "less safe" fixed-income securities over the coming years. Those who can see past the near-term uncertainties and realize they can purchase undervalued securities with dividend yields or interest payments far above those of Treasury securities will be well rewarded.


Skarbeck is managing partner of Indianapolis-based Aldebaran Capital LLC, a money-management firm. Views expressed are his own. He can be reached at 818-7827 or ken@aldebarancapital.com.
Source: XMLAr02601.xml

Recent Articles by Ken Skarbeck

Comments powered by Disqus