What to do when waves (or interest rates) go flat
You can learn a lot about markets and investing by watching the surfers at Lunada Bay.
Lunada Bay is one of California’s top surf breaks in winter when giant waves of good form gently, and then more violently, meet the stones of Lunada Bay. A thrilling ride for those few stout enough to face the terror of a wall of water behind and rocks ahead and beneath. Like the Lunada Bay Boys, the locals. They live to challenge that wall of water in their back yard when it rises.
Surfers are smart. They have a secret communication system that alerts them when Lunada Bay is breaking. When they get the message, the surfers show up en masse to test their skills while the rest watch with awe from the cliffs above.
This may seem a bit simple, but when Lunada Bay is not breaking, the surfers do no show up. They do not bother to go into the water. The Lunada Bay Surfers know there is no point to try and surf when there are no waves.
You would think fixed income investors would be as smart as surfers, but it does not seem to be the case. Bond yields to bond investors are like waves to surfers. At least surfers know you need waves to surf. Bond investors seem to have forgotten you need interest to be a bond investor. With low, no or even negative yield, you are not investing in bonds, you are speculating.
As yields in global fixed income markets reach all time lows and even negative yields, rather than realize there are no waves (yield), investors continue to pile in. Germany sold almost $1 billion of negative yield 30 year bonds this week for example. And some 100 year bonds are being issued with almost no yield.
Lunada Bay surfers would never get into that water. What is the point? Lock in a guaranteed loss for the next 30 years with huge potential mark-to-market risk if rates normalize? Negative yield corporates are even worse because the investor is paying to take bankruptcy risk. Wipe out!
If you want to speculate, and expect rates to go even more negative, fine. You could have a nice pop, but realize you are speculating on something that should not happen in the real world (negative interest rates), and up until recently, in the history of the world, have never occurred. Not the kind of bet a Lunada Bay surfer would make that is for sure. What to do?
Step back from the cliff. Get into your surfer zone. Look at the ocean. Surfers do not even bother to show up at Lunada Bay if there are no waves. Why rush into fixed income markets with no yield? If they are going to charge you to loan money to them, why play?
So, what do Lunada Bay surfers do when the surf is flat? They look for better locations. Some go on safari and look around the world for surf that is breaking. That is what I do too, in the investment sense. Scan more beaches in more locations. In today’s flat interest rate ocean, you have to have a process that will help identify where the opportunities are, wherever they are, not just looking at your familiar backyard.
For me, right now my favorite place for yield is Bloomberg’s #1 ranked EM market, Malaysia. Investment grade (A3/A-) government backed affordable housing receivables that pay 9% in US$, alpha of over 6%, very hard to find. (Contact me for more details if interested.)
There are other specialty credit investments out there as well that are filling gaps vacated by the big global banks in trade finance and other areas.
For the less adventurous, the three month US Treasury Bill at 2% looks like a pretty good bet to hold cash and wait for the next set of rideable investment waves.
Learn from Lunada Bay surfers who know you cannot surf if there are no waves, just like you cannot invest in bonds if there is no interest. If you do, you are simply shark chum.
Instead, listen to the Lunada Bay surfers; relax, enjoy the Lunada Bay sunset, and check the surf in the morning. More waves are coming.