Thomas Moskovics once confined to me, tongue-in-cheek: “I do not understand shares. I am more of a bond-man.” Thomas is the owner of Austrian’s biggest private bank, which is more of a piggy bank than a traditional commercial bank: its billion-euro-family fortune is invested in absolutely risk-free deposits, mostly with the German Bundesbank, as he eyes even the ECB with some suspicion. So he’s not even much of a ‘bond-man’. This may sound eccentric, but I can sympathise.
For most of my life as a retail investor I have prioritised bonds over shares. The clear-cut math of the former had more appeal to me than the fickleness and volatility of shares. Too much depends on decisions of ambitious CEOs whose financial gratification depends on massaging the share price. They buy back shares, instead of investing; they increase company debts to boost earnings per shares; overpay on dividends, mergers and acquisitions that have little merit other than satisfying vanity, megalomania and being the pretext for extraordinary pay cheques. The result is unexpected volatility, the destruction of share value and crisis dottiness.
Stock markets tend to overreact. Shares have a habit to unreasonably dunk or rise, unjustified by known financial data, reflecting the emotions of market participants, hence my cowardly preference for modest but stable interest income.
Yet for more than two decades now I have had to face the vexing question of how to reinvest my money once a bond has matured. Payback-day meant that any new bond market investment would yield shockingly less.
Conditioned by experiences of the 1980s, when even bank deposits paid in excess of 10 per cent per annum, I refused to accept that interest rates may never rise again, as seems likely today. This is why I shied away from long-term bond investments: longer-dated bonds drop painfully when interest rates rise, and even when kept to maturity, its coupon would look miserly when compared to the pricing of new dept at higher rates.
My passion for bonds paid off for a last time during the Great Recession in 2008 and the ensuing euro crisis. Banks all over the world looked into an abyss, closer to aggregate bankruptcy than at any time since the 1930s. And the financial cardiac arrest had exposed the fatal flaw of the eurozone: nation states sharing a currency without shared tax- and central-bank-sovereignty.
Countries with weak growth and unpromising tax takes had lost the possibility to cushion their weak performance with currency devaluation, as Greece or Italy had done for all the post-war years. Handcuffed to Germany, they were tied to a euro valued way beyond their economic performance.
All of a sudden, sovereign bankruptcies in Europe looked possible. Yields of euro-denominated bonds started to diverge to the extreme. Countries like Ireland, Spain, Portugal or indeed Italy seemed not in position to roll over their debt.
Panic ensued. Bank debt was heavily discounted and it was thought the euro was going to collapse. I reasoned, rightly as it turned out, that the biggest banks in the US would not be allowed to fail, and the eurozone might disintegrate, but the currency itself would not disappear.
Corporations... pay on average a dividend yield just shy of two per cent, two and a half per cent more than bonds
In an extreme scenario, Germany would be the only country to continue using the euro, as the thrifty and most prosperous European sovereign had no need to devalue its currency and therefore to switch back to the Deutsche Mark. The risk of Germany being the only country to leave the currency, as it seemed possible in the Greek crisis, I thought were minuscule. Exporters do not want to price themselves out of the market that a new Deutsche Mark would have created.
I therefore invested in euro-denominated debt and in US banking bonds that were priced less than 90 cents for the dollar. The price rises of both investments were respectable, but I came to regret my habitual caution of shying away from longer maturities. By now, all these successful investments have been repaid but have nowhere to go. Positive-yielding bonds are today almost unacceptably risky. Mongolian debt or Turkmenistan bonds anyone? Who wants to load up on bankrupt Argentina?
Today, sovereign debt of rich countries yield close to zero, and most even less: 12 trillion of short- and medium-term government bonds now have a negative interest rate, earning the debtor a steady income, but not the investor.
Austria famously issued 100-year bonds lately. The first tranche, sold three years ago at a yield of 2.3 per cent, had soared to 210 per cent of its issuing price. On a risk-adjusted basis, this bond has gained more than any shares on earth. Its second issue, offered last month, was 10 times oversubscribed, although it offered a meagrely yield of 0.88 per cent – for a debt that only our grandchildren will hopefully see repaid.
Other than insurers or pension funds, which are forced by regulators to match the duration of their investments to their long-term obligations, and other than central banks, which gobble up bonds to finance their indebted governments and in vain try to boost consumption and investment by keeping interest rates at zero, we retail investors hope for income. Our objective is risk-averse income, as opposed to price speculation. For this, bonds do not qualify anymore. Even I have had to accept that.
This leaves shares as the only avenue open to preserve and increase wealth. Corporations, as represented in the US Standard & Poor’s Industrial Index, pay on average a dividend yield just shy of two per cent, two and a half per cent more than bonds. We know the caveats. Dividends do not have to be paid, like interest. In times of trouble they can be withheld.
Many governments impose a tax on dividends for international investors, further diminishing the intake. Yet they are visibly more than zero, explaining the enormous valuations we see today. S&P’s companies are priced at almost 24 times earnings. Shares are expensive indeed, even more so than before the corona shutdown. There’s more downside to them than we can easily stomach. Yet the risks inherent in bonds exceed historic standards too.
So I have grudgingly started to divert my bond repayments into the stock market. The corona-drop in March felt nauseating. As it turned out, it was a blip. For how long remains to be seen. Yet my comfortable days as a coupon-clipping saver are over. I have nothing to clip anymore.
Karl Marx would be very surprised to witness my slow death as an idle, unproductive market rentier. A world of zero interest would have been beyond his wildest dreams. On closer inspection, however, he would see that a new class of financiers have found myriad new ways of skimming wealth for nothing.
The purpose of this column is to broaden readers’ general financial knowledge and it should not be interpreted as presenting investment advice or advice on the buying and selling of financial products.
andreas.weitzer@timesofmalta.com
Andreas Weitzer, independent journalist based in Malta