Bonds Are Going Haywire Again — Howard Marks Explains Why

Prof G Markets

The episode explores significant volatility in the bond market and geopolitical tensions following the UN General Assembly. Host Ed Elson in

Key takeaways

• Howard Marks argues that rising 10-year Treasury yields are driven by persistent inflation and U.S. fiscal profligacy.
• The U.S. national debt has reached a psychological milestone of $40 trillion, heightening investor concern over long-term stability.

Main topics

• Bond market volatility
• U.S. national debt and deficit

Notable quotes

The market doesn't tell you what it's saying. It only does something, and you can infer from what's going on around you what the causes might be.

Conclusion

The episode serves as a warning about the structural economic risks po

Transcript preview

Speaker 1 (0:00) SpaceX had a huge opening on the public stock exchange, but their story has changed a lot since opening day. Anthropic and OpenAI are lining up to IPO next. What does that mean for them? And more importantly, what does that mean for you? What's an IPO anyway? And should you be investing in them? I'm Vivian Tu, your Rich BFF, and on this week's episode of Net Worth and Chill, we're getting into the weeds on IPOs, what they tell us, and what we should and should not be doing with them. Listen wherever you get your podcasts or watch on YouTube.com slash yourrichbff. Speaker 3 (0:46) Welcome to Profiteer Markets. I'm Ed Elson. It is September 24th. Let's check in on yesterday's market vitals. The major indices declined as U.S. Treasuries sold off. More on that in a second. Brent crude spiked above $103, adding pressure to the sell-off. And on Calci, the odds of another rate hike next month rose to 66%, and the odds of a third hike later in the year rose to 34%. Okay, what's happening? The bond market continues to flash bright red. Yesterday, the 10-year treasury yield ripped above... 5.1 % to a fresh 19-year high. The 30-year yield returned to levels not seen since 2004, and even the five-year yield breached 5%, the highest since before the financial crisis. That was despite the Treasury's attempt to bring yields down with a historic buyback program weeks ago. Treasury Secretary Scott Besant bought $6 billion worth of long-dated bonds and still... yields went up. And Besant's second buyback operation, another $6 billion, is set to happen today. Well, our guest today says that the rise in yields is no surprise. In his new memo, legendary investor Howard Marks argues that the Treasury's response was a cosmetic fix to America's economic problems. He says that buybacks will not solve a situation that is structurally unsound. He joins us today on ProfitG Markets to explain why. Howard Marks, thank you so much for joining us. Looking at the yields, the 10-year is back at its highest levels in years. The 30-year, close to 5.4 % highest levels in decades. The Treasury has tried multiple times to stop the bleeding here. It isn't working. What is going on? What is the bond market telling us right now? Speaker 5 (2:44) We never know exactly what the market is saying. The market doesn't tell you what it's saying. It only does something, and you can infer from what's going on around you what the causes might be. When rates go up, other than when government puts them up, what it basically means is that people want more yield from a given investment. Now, why might they want more yield? The obvious reason is because if they think if they lend you $100 today, when you pay them back in 30 years, it'll buy less. And so they need a purchasing power protection or inflation premium in the yield to compensate for that. And that's the common. The other reason that yields go up is because they think that the proposition has become riskier. So if they lend you $100 today, the probability that they get $100 back in 30 years, it may be a little less. So some risk. Another reason that yields go up is because there's a lot of demand for capital. And so a given use of capital has to compete with all the other uses to attract it. So, you know, yields on investment X go up to make sure that it goes to. X rather than Y. So there are lots of different reasons. And as I said in the memo, I think the main reasons why rates are going up is because number one, inflation is stubborn and it has stubbornly been above the Fed's 2 % target for the last, well, five years. Speaker 5 (4:35) You know, while it has come down from nine and a half, it went down to like 2.7. The target is two. They could never get it to two. And now with the impact of the Ukraine war raising oil prices, it's up to 3.4 or something like that. So that's, I think that's the main reason people want inflation protection, if they're going to lend you money for a long time. But there's also concern, you know, simultaneously. You know, the U.S. came out with a number of $40 trillion for its national debt. And there's concern about the impact, the meaning of that, I would say, profligacy. Why are we spending $2 trillion a year more than we're taking in in taxes? Why are we running a deficit that approaches $2 trillion? You know, if you had a brother-in-law who every year or every month spent more than his salary. and put it on the credit card, you might look askance. Well, so that may be going on here. And then the third factor is that there's a very strong demand for capital at this time. And in addition to the U.S. financing the growth of the economy, which always takes place, it has to finance a deficit approaching $2 trillion. And that's at the same time that AI is drawing you know, maybe hundreds of billions of dollars from investors in the debt market and competing with the Treasury to raise money. Speaker 3 (6:10) Just looking at the deficit as an example, which has been a problem for decades now, the U.S. debt, as long as I've been a conscious human being, has been an issue. It seems that something has changed this summer, really, at least in the bond markets. There has been a... a change in the tone of bond investors who seem to be a lot more worried about the U.S. deficit today than they were before, despite the fact that it has not been in great shape for a long time. I assume it might be because we're getting more and more indication that our leadership doesn't care about this at all. And you talk about this in your memo that the U.S. has this, quote, golden credit card. There's basically no talk of balancing the budget anymore. Speaker 3 (6:58) How big of an issue is this? And what do you think is changing? Or what do you think has changed in the minds of bond investors, not just in the U.S., but I guess around the world too? Ed, for historical reference, I think Speaker 5 (7:14) the last time we had a budget surplus was when Clinton left office. So that was 2000. So 26 years of deficits. One thing that has changed is the size of the deficits. as a percentage of GDP. And, you know, we ran a $2 trillion deficit, I think, around 21 to provide COVID relief. You know, then people kind of got used to that level and they've continued it. And, you know, it's one thing to give, to run a big deficit when you're in a recession and the government is not... producing, I mean, the economy isn't creating enough jobs. There's another thing to run a deficit when you have something like the pandemic and the world economy is frozen and you want to jumpstart it back into action. But running a $2 trillion deficit at a time of prosperity. But when unemployment is quite low, near a record, you know, when there is no emergency to counter, that's something very different. So when you ask what's changed, I think one thing that changed is it does seem that nobody cares about the deficit. Nobody ever talks about a balanced budget anymore, which used to be a topic of conversation and so forth. And I do think that's a change. And I describe it as profligacy. Speaker 5 (8:43) You know, I go back to the analogy of your brother-in-law. And, you know, if your brother-in-law was given a golden credit card, we know he'd buy 10 Ferraris. But, you know, if you're a hard-working guy and you live within your means and you don't have a big