JasonC

What's It Going to Be: Inflation or Deflation?

Inflation indexed treasuries currently yield 3% real, 2-3 times a year ago. They are within 1-1.5% of unadjusted treasuries. Anyone who thinks there will be strong inflation ahead is clearly disagreeing with the market consensus, and can buy those. The risk is practically non-existent.

Better investments for those who believe deflation is much more likely are high quality bonds trading at distressed levels, (up to 15% for banks the government has made clear it will not allow to fail e.g.), loan participation closed end funds at double digit discounts to net asset value (with senior creditor positions, and profitable over the last year despite the turmoil), AAA senior tranches of private MBS on prime credits, yielding 6-7% above treasuries, etc.

It is outright crazy that these assets are being dumped at prices this attractive, while central banks make unlimited credit available at 1-3% rates. Nobody has the stones to step in an arb the spread. All the usual players who did such things in the past blew out, or had their short term financing costs spike, or banks pull their credit lines, forcing them to dump.

There is no fundamental reason for those spreads. It is a pure capital panic. Since the authorities are simply not going to allow that panic to cause systemic collapse, it is objectively entirely safe to buy all these classes of assets.

Those worried that interest rates will go higher in the medium term can hedge credit positions by owning TIPS as mentioned above, or use floating rate securities - some are available on financials that will yield twice the short rate forever with an 8% floor (because they are selling at half issuance price), and they are going begging.

These inducements to save, or to take on credit risk, are the highest in my lifetime and likely the highest any of us will ever see. Everyone brave enough to act on them is going to make a killing.