Bill Gross at His Best

John Mauldin

I normally read Bill Gross’s monthly letter the day of or shortly after when it comes out. For whatever reason, I didn’t get around to his early June letter until a few days ago. It has been a few years since I have sent his letter out as your Outside the Box for the week, but I thought this one was so good that I needed to send it on. As it turns out, I went this morning to get it from his website and found that his July letter is out, and it is just as good. Since he writes relatively short letters, I’m going to use both of them.

The first one deals with the expectations that most investors have about future returns over the long term – as opposed to what reality actually suggests. Of course, your mileage may vary, depending on how you choose to create your portfolio, but the average investor is at best looking at about a compound 4-5% over the next 10 to 15 years. And that’s if everything works and we see the top end of the expected returns. Given current bond yields and stock valuations, that outcome may be unlikely.

Bill’s take is not significantly different from what I’ve been writing, but he makes a number of very good points and has data sets that are really worth paying attention to. Plus, Gross is just a fun writer.

He starts with the simple game of Monopoly that we are all familiar with and then begins to develop an analogy to the real economy. Central banks keep increasing the amount of money you get every time you pass Go. If that happens in Monopoly, your investing strategy changes significantly, since the price of assets goes up because the supply of money increases at an ever faster rate. Which means that the velocity of money rises until at some point you have a problem. Quoting:

[H]owever with yields at near zero and negative on $10 trillion of global government credit, the contribution of velocity to GDP growth is coming to an end and may even be creating negative growth as I’ve argued for the last several years. Our credit-based financial system is sputtering, and risk assets are reflecting that reality even if most players (including central banks) have little clue as to how the game is played.

We’ll going to start with his June letter and then segue right into today’s July letter. He is shouting a warning about the viability of the current economic system. He didn’t quote Yeats, but I will: “The centre cannot hold.”

We live in interesting times. We continue to see repercussions from Brexit, and the other major players, in Europe, China, and Japan seem to be in a downward spiral (not to mention bubble-like issues in Canada and other parts of the world).

The world is quickly getting far more complex, something that central banks’ (and everybody else’s!) models can’t capture. We are tiptoeing into a period of enormous uncertainty. Bill Gross focuses on low interest rates and high asset valuations; but given the odd new world of central bank-influenced markets, there is no reason valuations can’t go higher and interest rates even lower. I am becoming increasingly concerned about uni-directional funds, except as trading vehicles. Long-only equity funds seem problematic, at least from my view here in Dallas.

That’s enough for this week. I’ll leave you with the fun of reading two well-written essays from Bill Gross – even if they don’t exactly have good news for us. I trust your summer (if you are in the northern Hemisphere) is going well. Have a great week!

Your trying to get an overview on the map of the future analyst,

John Mauldin, Editor
Outside the Box


Bon Appetit!

(Originally published on the Janus Capital website, June 2, 2016)

The economist Joseph Schumpeter once remarked that the “top-dollar rooms in capitalism’s grand hotel are always occupied, but not by the same occupants”. There are no franchises, he intoned — you are king for a figurative day, and then — well — you move to another room in the castle; hopefully not the dungeon, which is often the case. While Schumpeter’s observation has obvious implications for one and all, including yours truly, I think it also applies to markets, various asset classes, and what investors recognize as “carry”. That shall be my topic of the day, as I observe the Pacific Ocean from Janus’ fourteenth floor — not exactly the penthouse but there is space available on the higher floors, and I have always loved a good view. Anyway, my basic thrust in this Outlook will be to observe that all forms of “carry” in financial markets are compressed, resulting in artificially high asset prices and a distortion of future risk relative to potential return that an investor must confront.

Experienced managers that have treaded markets for several decades or more recognize that their “era” has been a magnificent one despite many “close calls” characterized by Lehman, the collapse of NASDAQ 5000, the Savings + Loan crisis in the early 90’s, and so on. Chart 1 proves the point for bonds. Since the inception of the Barclays Capital U.S. Aggregate or Lehman Bond index in 1976, investment grade bond markets have provided conservative investors with a 7.47% compound return with remarkably little volatility. An observer of the graph would be amazed, as was I, at the steady climb of wealth, even during significant bear markets when 30-year Treasury yields reached 15% in the early 80’s and were tagged with the designation of “certificates of confiscation”. The graph proves otherwise, because as bond prices were going down, the hig her and higher annual yields smoothed the damage and even led to positive returns during “headline” bear market periods such as 1979-84, or more recently the “taper tantrum” of 2013. Quite remarkable, isn’t it? A Sherlock Holmes sleuth interested in disproving this thesis would find few 12-month periods of time where the investment grade bond market produced negative returns.

The path of stocks has not been so smooth but the annual returns (with dividends) have been over 3% higher than investment grade bonds as Chart 2 shows. That is how it should be: stocks displaying higher historical volatility but more return.

But my take from these observations is that this 40-year period of time has been quite remarkable – a grey if not black swan event that cannot be repeated. With interest rates near zero and now negative in many developed economies, near double digit annual returns for stocks and 7%+ for bonds approach a 5 or 6 Sigma event, as nerdish market technocrats might describe it. You have a better chance of observing another era like the previous 40-year one on the planet Mars than you do here on good old Earth. The “top dollar rooms in the financial market’s grand hotel” may still be occupied by attractive relative asset classes, but the room rate is extremely high and the view from the penthouse is shrouded in fog, which is my meteorological metaphor for high risk.

Let me borrow some excellent work from another investment firm that has occupied the upper floors of the market’s grand hotel for many years now. GMO’s Ben Inker in his first quarter 2016 client letter makes the point that while it is obvious that a 10-year Treasury at 1.85% held for 10 years will return pretty close to 1.85%, it is not widely observed that the rate of return of a dynamic “constant maturity strategy” maintaining a fixed duration on a Barclays Capital U.S. Aggregate portfolio now yielding 2.17%, will almost assuredly return between 1.5% and 2.9% over the next 10 years, even if yields double or drop to 0% at period’s end. The bond market’s 7.5% 40-year historical return is just that – history. In order to duplicate that number, yields would have to drop to -17%! Tickets to Mars, anyone?

The case for stocks is more complicated of course with different possibilities for growth, P/E ratios and potential government support in the form of “Hail Mary” QE’s now employed in Japan, China, and elsewhere. Equities though, reside on the same planet Earth and are correlated significantly to the return on bonds. Add a historical 3% “equity premium” to GMO’s hypothesis on bonds if you dare, and you get to a range of 4.5% to 5.9% over the next 10 years, and believe me, those forecasts require a foghorn warning given current market and economic distortions. Capitalism has entered a new era in this post-Lehman period due to unimaginable monetary policies and negative structural transitions that pose risk to growth forecasts and the historical linear upward slope of productivity.

Here’s my thesis in more compact form: For over 40 years, asset returns and alpha generation from penthouse investment managers have been materially aided by declines in interest rates, trade globalization, and an enormous expansion of credit – that is debt. Those trends are coming to an end if only because in some cases they can go no further. Those historic returns have been a function of leverage and the capture of “carry”, producing attractive income and capital gains. A repeat performance is not only unlikely, it is impossible unless you are a friend of Elon Musk and you’ve got the gumption to blast off for Mars. Planet Earth does not offer such opportunities.

“Carry” in almost all forms is compressed and offers more risk than potential return. I will be specific:

  • Duration is unquestionably a risk in negative yielding markets. A minus 25 basis point yield on a 5-year German Bund produces nothing but losses five years from now. A 45 basis point yield on a 30-year JGB offers a current “carry” of only 40 basis points per year for a near 30-year durational risk. That’s a Sharpe ratio of .015 at best, and if interest rates move up by just 2 basis points, an investor loses her entire annual income. Even 10-year U.S. Treasuries with a 125 basis point “carry” relative to current money market rates represent similar durational headwinds. Maturity extension in order to capture “carry” is hardly worth the risk.
  • Similarly, credit risk or credit “carry” offers little reward relative to potential losses. Without getting too detailed, the advantage offered by holding a 5-year investment grade corporate bond over the next 12 months is a mere 25 basis points. The IG CDX credit curve offers a spread of 75 basis points for a 5-year commitment but its expected return over the next 12 months is only 25 basis points. An investor can only earn more if the forward credit curve – much like the yield curve – is not realized.
  • Volatility. Carry can be earned by selling volatility in many areas. Any investment longer or less creditworthy than a 90-day Treasury Bill sells volatility whether a portfolio manager realizes it or not. Much like the “VIX®”, the Treasury “Move Index” is at a near historic low, meaning there is little to be gained by selling outright volatility or other forms in duration and credit space.
  • Liquidity. Spreads for illiquid investments have tightened to historical lows. Liquidity can be measured in the Treasury market by spreads between “off the run” and “on the run” issues – a spread that is nearly nonexistent, meaning there is no “carry” associated with less liquid Treasury bonds. Similar evidence exists with corporate CDS compared to their less liquid cash counterparts. You can observe it as well in the “discounts” to NAV or Net Asset Value in closed-end funds. They are historically tight, indicating very little “carry” for assuming a relatively illiquid position.

The “fact of the matter” – to use a politician’s phrase – is that “carry” in any form appears to be very low relative to risk. The same thing goes with stocks and real estate or any asset that has a P/E, cap rate, or is tied to present value by the discounting of future cash flows. To occupy the investment market’s future “penthouse”, today’s portfolio managers – as well as their clients, must begin to look in another direction. Returns will be low, risk will be high and at some point the “Intelligent Investor” must decide that we are in a new era with conditions that demand a different approach. Negative durations? Voiding or shorting corporate credit? Buying instead of selling volatility? Staying liquid with large amounts of cash? These are all potential “negative” carry positions tha t at some point may capture capital gains or at a minimum preserve principal. But because an investor must eat something as the appropriate reversal approaches, the current penthouse room service menu of positive carry alternatives must still be carefully scrutinized to avoid starvation. That means accepting some positive carry assets with the least amount of risk. Sometime soon though, as inappropriate monetary policies and structural headwinds take their toll, those delicious “carry rich and greasy” French fries will turn cold and rather quickly get tossed into the garbage can. Bon Appetit!


Just a Game

(Originally published on the Janus Capital website, July 6, 2016)

If only Fed Governors and Presidents understood a little bit more about Monopoly, and a tad less about outdated historical models such as the Taylor Rule and the Phillips Curve, then our economy and its future prospects might be a little better off. That is not to say that Monopoly can illuminate all of the problems of our current economic stagnation. Brexit and a growing Populist movement clearly point out that the possibility of de-globalization (less trade, immigration and economic growth) is playing a part. And too, structural elements long ago advanced in my New Normal thesis in 2009 have a significant role as well: aging demographics, too much debt, and technological advances including job-threatening robotization are significantly responsible for 2% peak U.S. real GDP as opposed to 4-5% only a decade ago. But all of these elements are but properties on a larger economic landsc ape best typified by a Monopoly board. In that game, capitalists travel around the board, buying up properties, paying rent, and importantly passing “Go” and collecting $200 each and every time. And it’s the $200 of cash (which in the economic scheme of things represents new “credit”) that is responsible for the ongoing health of our finance-based economy. Without new credit, economic growth moves in reverse and individual player “bankruptcies” become more probable.

But let’s start back at the beginning when the bank hands out cash, and each player begins to roll the dice. The bank – which critically is not the central bank but the private banking system– hands out $1,500 to each player. The object is to buy good real estate at a cheap price and to develop properties with houses and hotels. But the player must have a cash reserve in case she lands on other properties and pays rent. So at some point, the process of economic development represented by the building of houses and hotels slows down. You can’t just keep buying houses if you expect to pay other players rent. You’ll need cash or “credit”, and you’ve spent much of your $1,500 buying properties.

To some extent, growth for all the players in general can continue but at a slower pace – the economy slows down due to a more levered position for each player but still grows because of the $200 that each receives as he passes Go. But here’s the rub. In Monopoly, the $200 of credit creation never changes. It’s always $200. If the rules or the system allowed for an increase to $400 or say $1,000, then players could keep on building and the economy keep growing without the possibility of a cash or credit squeeze. But it doesn’t. The rules which fix the passing “Go” amount at $200 ensure at some point the breakdown of a player who hasn’t purchased “well” or reserved enough cash. Bankruptcies begin. The Monopoly game, which at the start was so exciting as $1,500 and $200 a pass made for asset accumulation and economic growth, now tur ns sullen and competitive: Dog eat dog with the survival of many of the players on the board at risk.

All right. So how is this relevant to today’s finance-based economy? Hasn’t the Fed printed $4 trillion of new money and the same with the BOJ and ECB? Haven’t they effectively increased the $200 “pass go” amount by more than enough to keep the game going? Not really. Because in today’s modern day economy, central banks are really the “community chest”, not the banker. They have lots and lots of money available but only if the private system – the economy’s real bankers – decide to use it and expand “credit”. If banks don’t lend, either because of risk to them or an unwillingness of corporations and individuals to borrow money, then credit growth doesn’t increase. The system still generates $200 per player per round trip roll of the dice, but it’s not enough to keep real GDP at the same pace and to prevent some companies/households from going bankrupt.

That is what’s happening today and has been happening for the past few years. As shown in Chart I, credit growth which has averaged 9% a year since the beginning of this century barely reaches 4% annualized in most quarters now. And why isn’t that enough? Well the proof’s in the pudding or the annualized GDP numbers both here and abroad. A highly levered economic system is dependent on credit creation for its stability and longevity, and now it is growing sub-optimally. Yes, those structural elements mentioned previously are part of the explanation. But credit is the oil that lubes the system, the straw that stirs the drink, and when the private system (not the central bank) fails to generate sufficient credit growth, then real economic growth stalls and even goes in reverse.

(To elaborate just slightly, total credit, unlike standard “money supply” definitions include all credit or debt from households, businesses, government, and finance-based sources. It now totals a staggering $62 trillion in contrast to M1/M2 totals which approximate $13 trillion at best.)

Now many readers may be familiar with the axiomatic formula of (“M V = PT”), which in plain English means money supply X the velocity of money = PT or Gross Domestic Product (permit me the simplicity for sake of brevity). In other words, money supply or “credit” growth is not the only determinant of GDP but the velocity of that money or credit is important too. It’s like the grocery store business. Turnover of inventory is critical to profits and in this case, turnover of credit is critical to GDP and GDP growth. Without elaboration, because this may be getting a little drawn out, velocity of credit is enhanced by lower and lower interest rates. Thus, over the past 5-6 years post-Lehman, as the private system has created insufficient credit growth, the lower and lower interest rates have increased velocity and therefore increased GDP, although weakly. No w, however with yields at near zero and negative on $10 trillion of global government credit, the contribution of velocity to GDP growth is coming to an end and may even be creating negative growth as I’ve argued for the last several years. Our credit-based financial system is sputtering, and risk assets are reflecting that reality even if most players (including central banks) have little clue as to how the game is played. Ask Janet Yellen for instance what affects the velocity of credit or even how much credit there is in the system and her hesitant answer may not satisfy you. They don’t believe in Monopoly as the functional model for the modern day financial system. They believe in Taylor and Phillips and warn of future inflation as we approach “full employment”. They worship false idols.

To be fair, the fiscal side of our current system has been nonexistent. We’re not all dead, but Keynes certainly is. Until governments can spend money and replace the animal spirits lacking in the private sector, then the Monopoly board and meager credit growth shrinks as a future deflationary weapon. But investors should not hope unrealistically for deficit spending any time soon. To me, that means at best, a ceiling on risk asset prices (stocks, high yield bonds, private equity, real estate) and at worst, minus signs at year’s end that force investors to abandon hope for future returns compared to historic examples. Worry for now about the return “of” your money, not the return “on” it. Our Monopoly-based economy requires credit creation and if it stays low, the future losers will grow in number.

Cameras for good

A bloody week for America

IT HAS been clear for some time that smartphone cameras add a lot to society’s knowledge about what happens in the world. A series of horrible shootings this week in Baton Rouge, Louisiana; in Falcon Heights, Minnesota; and in Dallas, Texas, have once again demonstrated the power of amateur smartphone video to show millions of people shocking events almost in real time. Protest marches and vigils were held in cities nationwide after social media and traditional broadcast television networks circulated images of a police shooting in Baton Rouge in the early hours of July 5th, and in Falcon Heights on July 6th.

In the first incident Alton Sterling, a black man, was shot outside a convenience store by two white officers answering a 911 emergency report of a threatening man with a gun. Smartphone images show Mr Sterling, who had for some years sold CDs and DVDs outside the shop, being confronted, forced to the ground, restrained and then—after shouts of “he’s got a gun”—apparently being shot at close range. Though investigators will doubtless have much to ask a conventional eye-witness, the shop’s owner, who said that police reached into Mr Sterling’s pocket and pulled out a gun only after the shooting, many Americans shared the instinctive reaction of Louisiana’s governor, John Bel Edwards, a Democrat, who said he had “very serious concerns” after watching the “disturbing” video.

The immediate aftermath of the second incident, in Minnesota, is captured in a roughly 10-minute video played on the Facebook page of a young Minnesota woman, Diamond Reynolds, as she responds with remarkable self-discipline to a frantic-sounding police officer who has just shot her boyfriend, Philando Castile, in the driver’s seat of his car after a routine traffic stop to inspect a broken rear light. Mr Castile, a school canteen supervisor, was licensed to carry a gun and had told the policeman he was armed. “I told him not to reach for it,” the officer shouts, his gun still pointed at Ms Reynolds, whose four-year old daughter is in a back seat. As if determined to gather evidence in real-time Ms Reynolds tells the policeman: “You told him to get his ID, sir. His driver’s licence.” She adds: “You shot four bullets into him, sir.” Once again, the video seemed to galvanise the state’s governor, Mark Dayton, who said he was “appalled” and called for an investigation to establish what had happened with the greatest urgency, asking: "Would this have happened if those passengers, the driver were white? I don't think it would have."

The third, related tragedy saw five policemen murdered in cold blood by a sniper on the evening of July 7th, as several hundred demonstrators marched peacefully through Dallas to protest recent police shootings. Officials said the suspected gunman was killed by a bomb of his own making after hours of negotiations ended with a police bomb squad robot being sent to detonate the device. The gunman was named as 25-year-old Micah Xavier Johnson, a black Army reservist trained as a carpenter and mason who had served in Afghanistan. He told negotiators that he was angry about police shootings and wanted to kill white people, especially white police officers. Once again, television screens and social media filled with graphic images of demonstrators fleeing in terror as gunshots first rang out.

In this grim and tense moment, there are some reasons for hope, however. For many leading politicians of right and left reacted with commendable calm to these latest, racially charged shootings. In part, the strikingly measured tones adopted by such very different politicians as Barack Obama, Donald Trump, Hillary Clinton and Paul Ryan surely reflect the peril of the moment. The political landscape already feels as ready to burn as any tinder-dry, drought-stricken forest, so that throwing inflammatory statements around would be as wicked as any act of arson.

But to be optimistic, as Lexington wants to be, many political reactions seemed to bear the influence of something nobler than mere caution. One after the other national figures asked the public to imagine what it might be like to be Ms Reynolds, or any black American wondering if they can trust the police.

That raises a hopeful thought: perhaps through their sheer immediacy and the raw intimacy of their images, today’s ever-present smartphone cameras are not just tools for recording facts, but instruments with a rare power to foster empathy.

Americans might like to cling to that thought as summer temperatures mount, and every week and month seems to bring news of a new mass shooting. For if there is one thing that the country needs right now, is it a supply of empathy deep enough to prevent society from retreating into rival camps of hostility and mutual suspicion, glaring at each other across divides of race, class and ideology.

For sure, some politicians appeared determined to tell Americans that they live in a zero-sum world of conflict. Dan Patrick, the Republican lieutenant-governor of Texas (a powerful post in that state), headed onto Fox News television and launched into a blanket denunciation of all those who protest any police actions, whether peacefully or not, seeming to assign responsibility to all of them for the murders in Dallas. “I’m sick and tired of those who are protesting our police and putting their lives in danger,” he said, before turning to the images of peaceful protestors in Dallas fleeing the gunshots targeting police. Despite reports that, before the ambush, Dallas police had co-operated with the protestors and supported their right to demonstrate, Mr Patrick called the demonstrators fleeing the sniper “hypocrites.” The protestors “ran the other way, expecting the men and women in blue to turn around and protect them,” he said.

A Republican congressman from Texas, Louis Gohmert, used a TV appearance to slander President Obama, and misrepresent the positions taken by the (admittedly amorphous) Black Lives Matter protest movement. Mr Gohmert ignored the fact that the president has condemned every attack on police officers. On July 8th Mr Obama called the Dallas shootings a “vicious, calculated and despicable” attack on police—a day after urging Americans to be troubled by the shootings in Louisiana and Minnesota, and by the appearance or reality of racial bias that lead communities to distrust the “vast majority of police officers who put their lives on the line to protect us every single day.” Unmoved, Mr Gohmert declared that a “divisive” Mr Obama “always comes out against the cops,” adding—inaccurately—that “this administration has supported Black Lives Matter as even their leaders have called out for killing cops.”

Given such heated rhetoric, it was a welcome relief to see a calm and balanced statement from Mr Trump, the presumptive Republican nominee. While calling for “law and order” on the streets and offering prayers for the murdered police officers, he also said: “the senseless, tragic deaths of two people in Louisiana and Minnesota reminds us how much more needs to be done,” to make Americans feel secure. “Our nation has become too divided,” Mr Trump concluded, urging more “love and compassion.”

Mrs Clinton, the presumptive Democratic presidential nominee, told CNN television that she called on Americans “to do much more to listen to each other,” adding that white people like her should try to put themselves “in the shoes” of black families having to have “The Talk” with their children about how to stay safe and non-threatening during encounters with the police.

Mr Ryan, who as Speaker of the House of Representatives is the country’s most senior elected Republican, gave a short and emotional speech in Congress in which he asked Americans of all opinions not to “let our anger send us further into our corners”. Mr Ryan sought to describe the common ground uniting Republican and Democratic members of Congress whose hearts are with the murdered police and their families, but who also want “a world in which people feel safe regardless of the colour of their skin, and that is not how people are feeling these days.” The Speaker praised the values that brought protestors to the streets of Dallas: “respect, decency, compassion, humanity.”

His call to respect the motives of all sides was echoed by Senator Marco Rubio of Florida, a former Republican presidential candidate now running for re-election to the Senate. Cynics may ascribe Mr Rubio’s mild tone to the diverse population of his home state, and the fact that bombastic Mr Trump trails in the polls there. But his words are worth quoting at length, for they precisely describe how those grainy smartphone images promote fellow-feeling:
Those of us who are not African American will never fully understand the experience of being black in America. But we should all understand why our fellow Americans in the black community are angry at the images of an African American man, with no criminal record, who was pulled over for a busted tail light, slumped in his car seat and dying while his four-year-old daughter watches from the back seat. 
All of us should be troubled by these images. And all of us need to acknowledge that this is about more than just one or two recent incidents. 
The fact is that there are communities in America where black families tell us that they are fearful of interacting with their local law enforcement. How they feel is a reality that we cannot and should not ignore.

The 2016 election campaign is not about to turn into a group therapy session. Perhaps partisan flame-throwing will dominate the next few days. But if it does not, some thanks will be owed to those omnipresent watching phones.

Europe v America

From clout to rout

Why European companies have become a fading force in global business

IT FEELS indelicate to raise it at a time like this, but European business has a bigger problem on its plate than Britain’s decision to leave the European Union. After a decade of stagnation the continent’s firms have suffered an alarming decline in their global clout. Europe’s slide down the corporate rankings has been brutal, even before the market rout in the wake of Brexit. Of the 50 most valuable firms in the world, only seven are European, compared with 17 in 2006. No fewer than 31 are American, and eight are Chinese (few other emerging-market firms are really big yet). It’s past time that Europe’s bosses, investors and governments paid attention.

At the turn of the century it seemed natural that European firms would compete head to head with American ones, dividing the world between them, especially given that Japan’s once-aggressive multinationals were in retreat. In the following years Europe’s weight rose, relative to America’s, measured by the profits and value of listed firms. It peaked before the financial crisis (see chart 1).

How things have changed. The seven European firms that do make the cut are often oddities: three are Swiss, suggesting there really is something special about mountain air and rösti; another, AB InBev, a beer firm, is run by Brazilians who happen to have picked Belgium for their main share listing. The continent’s traditional heavyweight champions have become middleweight journeymen. In Britain BP, HSBC, Vodafone and GSK have all slid to the middle of the global rankings of their respective industries. So too have France’s equivalents: Total, BNP Paribas, Orange and Sanofi-Aventis.

A European firms occupies the top spot in only one out of 24 global sectors (Nestlé in food).

European leaders are typically much smaller than their rivals across the Atlantic. Unilever’s market value is three-fifths of Procter & Gamble’s, Airbus is about half as big as Boeing and Siemens is a third of the size of General Electric. Deutsche Bank’s market value is a tenth of JPMorgan Chase’s. Walmart is ten times bigger than Tesco or Carrefour, two of Europe’s largest supermarket chains.

Europe and America have economies of a similar size, but the aggregate market value of the top 500 European firms is half that of the top 500 American firms. Aggregate profits are 50-65% smaller, depending on the measure used. Of these firms, the median American company is worth $18 billion, with net income of $746m in the past year. The median European firm is worth $8 billion and earned only $440m.

It wasn’t meant to turn out like this. In the 1980s corporate Europe was held back by a patchwork of national boundaries, the heavy hand of the state and cross-shareholdings with banks and insurance companies. Starting in the late 1980s new ideas emerged to reinvigorate European business. There was a trend towards privatising industries and making them answerable to investors. There was a push to create pan-European firms that would compete across the EU’s single market using, in most countries, a single currency. And there was a drive to take European firms global, exploiting the historical links of their home countries around the world.

These ideas had an electrifying effect in the 1990s and early 2000s. There were intra-European deals aimed at bulking up that created GlaxoSmithKline, Sanofi-Aventis, TotalFinaElf and Air France-KLM. Other deals aimed for global reach. In Spain, Telefónica, Santander, Repsol and BBVA made huge investments in Latin America, aiming to build a second “home” market.

Some went shopping in North America. BP bought Amoco, Vivendi bought Seagram and Unilever purchased Best Foods.

Europe even put up a respectable fight against Silicon Valley. As late as 2000 the old continent was dominant in mobile technologies, many of which had been invented there. Nokia, Ericsson and Alcatel were among the most valuable firms in the world.

Relegated from the big league
What went wrong? Slow growth in Europe has not helped, and a strong dollar has made American firms’ domestic operations more valuable. But four other factors also explain the slide. First, Europe picked the wrong businesses. It focused on old industries such as commodities and steel, and on banking, where new rules have caused a depression in cross-border lending. Europe has gone backwards in technology—it hasn’t created any firms of the scale of Facebook or Google. From the early 2000s its tech-and-telecoms incumbents proved to be poor at reinventing themselves, even as American contemporaries, including Cisco and Microsoft, learned how to evolve.

The second explanation is that Europe focused on the wrong parts of the world. The continent’s firms are skewed towards emerging markets, which generate 31% of their revenues, according to Morgan Stanley, a bank. For American firms the figure is 17%. As the developing world has slowed, it has hit corporate Europe disproportionately hard, from banks to cognac distillers and makers of luxury handbags.

Third, Europe stopped doing deals even as the rest of the world continued to consolidate. The share of global deals by European acquirers fell from a third before the financial crisis to a fifth after it (see chart 2). Meanwhile, American firms have continued to bulk up at home, seeking to dominate their huge domestic market.

Last, European managers’ less aggressive attitude towards shareholder value may account for the difference in market values between Europe and America. European firms generate a lower return on equity and return less cash to shareholders through dividends and buy-backs. That may explain why for every dollar of expected profits and of capital invested, European firms are awarded a lower valuation.

One response to all of this is that raw size is not the same thing as global heft. Several of America’s most valuable firms, including AT&T and Berkshire Hathaway, are largely domestic. Many others are huge as a result of their businesses at home, but weaker abroad.

P&G may be far bigger than Unilever, but its emerging-market business is smaller than that of its Anglo-Dutch rival. Germany’s medium-sized engineering firms dominate specialised product categories without having multi-billion-dollar market capitalisations.

Yet corporate Europe’s waning scale is still a concern. Investment in research and development (R&D) tends to be disproportionately done by multinational firms. Of the world’s top 50 R&D spenders only 13 are European (down from 19 in 2006) while 26 are American.

A lack of scale may also make firms vulnerable as takeover targets. GE’s purchase in 2014 of most of Alstom, a symbol of French engineering prowess, is a case in point. Of the firms in Britain’s FTSE 100 index, about a fifth have received bids in the past three years or are viewed as possible targets, among them AstraZeneca, a drugs firm, BP and IHG, a hotel group.

Moreover, American companies have a strong incentive to buy overseas because of tax rules that encourage them to stash cash abroad.

Free-traders may be relaxed about this but foreign ownership could become a political problem.

Europe will attract more controversial Chinese deals. Pirelli, an Italian tyre company, was bought by ChemChina in 2015, which is now buying Syngenta, a Swiss seeds firms. A bid for Kuka, a German robot maker, by a Chinese firm has caused a political stink. Europe’s fights with Google, over the right to be forgotten, antitrust and tax, are a sign that the continent’s emerging status as an American technology colony will not be pain-free.

An obvious response is a renewed push for consolidation within Europe. But such deals are often a nightmare because nationalist emotions boil over. The attempted takeover of BAE Systems, a British defence firm, by Airbus in 2012 collapsed after political arguments; the proposed takeover of the London Stock Exchange by Deutsche Börse could be cancelled after the Brexit vote. The union last year of Lafarge and Holcim, a French cement firm and a Swiss rival, has been mired in rows.

The difficulty of pushing through recent transactions echoes the past. Many careers have been wrecked by pan-European deals. Of the 50 biggest such transactions attempted in the past 20 years, about a third have failed to materialise. The rest have often been bruising to implement.

There are some signs of a new wave of European deals. Shell, now the continent’s most powerful energy company, bought BG, a rival, in 2015. A few tycoons are reinvigorating the 1990s idea of European empires. Vincent Bolloré, who controls Vivendi, a French conglomerate, is now investing in Italy and wants to create a European media giant to take on the empires of the Murdoch clan and Netflix.

But if it wants to create giants, Europe may have to restrain more than its nationalist instincts—it may have to temper its tougher approach to antitrust, too. The secret of some big American firms is that they have created oligopolies at home. For example, America has allowed broadband provision to be dominated by a few firms, and profits are high. Europe has scores of operators and its regulators have pushed prices and margins lower.

By allowing companies to merge, Europe might be entering a Faustian pact. Helping its firms re-establish global clout could be bad for consumers if competition is diminished. But there is an even worse possible outcome: that Europe’s corporate weakness will eventually lead to a defensive protectionism and the continent will close itself off from the outside world.

The COT Report Is Still Bearish For Gold Investors, But There Was Something Important In It For The Bulls

by: Hebba Investments

-The latest COT report showed another increase in speculative net longs to another all-time high.

- With a higher gold price after the report closed, current net long positions are probably higher than even this report.

- While these factors are bearish, we didn't see a massive increase in commercial shorts on the week which has bullish connotations.
In the latest Commitment of Traders report (COT), we saw more of the same as speculative positions in both gold and silver rose to new all-time highs. We have been a broken record, as over the past month or so we have seen new highs breaking new highs, but there are a few observations about the make up of the participants in this report that should be of interest to investors.
We will get a little more into some of these details, but before that let us give investors a quick overview into the COT report for those who are not familiar with it.
About the COT Report
The COT report is issued by the CFTC every Friday to provide market participants a breakdown of each Tuesday's open interest for markets in which 20 or more traders hold positions equal to or above the reporting levels established by the CFTC. In plain English, this is a report that shows what positions major traders are taking in a number of financial and commodity markets.
Though there is never one report or tool that can give you certainty about where prices are headed in the future, the COT report does allow the small investors a way to see what larger traders are doing and to possibly position their positions accordingly. For example, if there is a large managed money short interest in gold, that is often an indicator that a rally may be coming because the market is overly pessimistic and saturated with shorts - so you may want to take a long position.
The big disadvantage to the COT report is that it is issued on Friday but only contains Tuesday's data - so there is a three-day lag between the report and the actual positioning of traders. This is an eternity by short-term investing standards, and by the time the new report is issued it has already missed a large amount of trading activity.

There are many different ways to read the COT report, and there are many analysts that focus specifically on this report (we are not one of them) so we won't claim to be the experts on it.
What we focus on in this report is the "Managed Money" positions and total open interest as it gives us an idea of how much interest there is in the gold market and how the short-term players are positioned.
This Week's Gold COT Report
This week's report shows another large increase in gold speculators while shorts also slightly increased.
As investors can see, for the fifth week in a row, speculative longs increased their positions by a beefy 18,236 contracts, while shorts got a bit braver and increased their own positions by 4,494 contracts. Speculative long positions are now at an all-time nominal high of 315,643 contracts long - and since the gold price is higher than it was on Tuesday's COT report close, we're probably higher in the current long positions.
The net position of all gold traders can be seen below:
The red line represents the net speculative gold positions of money managers (the biggest category of speculative trader), and as investors can see, speculative traders are going parabolic as they reach another all-time high in net positions at over 287,000 contracts net long. Of course, with any long there must be an associated short contract, and swap dealers are the ones that are primarily taking the reverse end of this trade.

Before we move on to silver, another interesting tidbit that we commented on last week was the unexpected lack of short interest by the Producer/Processor/Merchant category. In our view, these are the "smart money" in the commodity industry as they are naturally intimate with the market by the very fact that they supply the physical commodity to clients and end users. By default, they tend to be heavily short the commodity simply because they use futures as a means to hedge their existing inventory. That's important because that means they tend to be very unemotional holders of their positions and are less apt to panic on either the upside or downside of a commodity rally.
So the combination of their emotional discipline and their first-hand knowledge of the market makes them the smart money in the report. So what is interesting here is that instead of seeing a large increase in short positions to correspond to the rising gold price (which tends to happen when the price moves up), we actually saw an increase in net long positions on the week - albeit slightly.
  Source: CFTC
While we don't want to read too much into this, for the bulls this is definitely a positive factor as it may suggest that the commercials are hesitant to lock-in current gold prices and they may think the rally has legs. Or it may mean that on hand physical inventories are lower than expected, and thus there is no need to hedge on the short side what is not physically owned in inventory. It is one week and it is only a slight increase, but it is definitely worth noting.
As for silver, the week's action looked like the following:
The red line, which represents the net speculative positions of money managers, increased by a little more than 2,000 contracts while shorts decreased by a minute 152 contracts. Silver speculators weren't as bullish as gold speculators, but their trend was still similar and the silver market speculators are way above their 2011 all-time highs.
Our Take and What This Means For Investors
Before we get into our investment take, one thing we wanted to make clear to investors is our purpose in writing these articles and how it relates to our position. Unfortunately, gold is almost a "financial religion" where emotions run high and you're either hated or loved based on your stance. While this may make for a lively comments section, it is not a way to invest or to evaluate bullish or bearish articles - there's always a time to buy or sell based on circumstances. That is how we invest our money and we would strongly advise all investors to do the same, but unfortunately there are plenty of very emotional gold bulls and bears out there.
Having said that, our position on gold is that we believe that gold is an excellent long-term bullish investment due to a number of factors which we have outlined in previous pieces. But for the COT related articles, we are not talking about whether gold makes a good long-term investment (it does), but rather, what should investors do in gold in the short term. Just like any other investment, gold can have some very large short-term swings and that can give investors an opportunity to use contrarianism to take advantage of excessive optimism or pessimism. That is why we write these articles.
So based on this latest COT report, what is our stance on gold?
We have been bearish on gold for a number of weeks now based on the fact that speculative traders have just overwhelmed the market on the bullish side, and that has continued this week as we have once again broken an all-time high in net speculative longs. Based solely on that, we would maintain our bearish position.

But one interesting thing that bulls will hang their hats on is the fact that over the past few weeks, we haven't seen commercials/producers significantly increase their short position as they traditionally do in large upward moves in the gold price. In fact, this week we actually saw a slight bullish increase in their positions - very strange considering the large jump in gold prices.
If producers are not increasing their short positions because of a lack of desire or inventory to hedge, then that would completely change our view to being short-term bullish on gold again. Any kind of physical deficit in the market would be a major problem if its paired with growing investment demand and thus we could see gold rise back to the all-time highs we saw in 2011.
It's a bit early for us to say that based on only one or two reports showing a slight increase in commercial long positions for the week, and we are still giving much more weight to the fact that speculators are blowing past all previous highs in terms of their bullish optimism on the gold price.
Throw in the fact that the CME is trying to limit volatility by raising gold and silver margins, and there is a strong argument to return to a more normal positional median which would mean a decline in the net long speculative positions and probably the gold price.
It is very tough not to be short-term bullish here as both gold and silver seem to rise every day regardless of news as evidenced by a normally bearish-for-gold excellent jobs report that only led to another rise in the gold price. But we have to be disciplined here and thus we are maintaining our core gold positions and that is it. We believe investors need to be taking profits here in gold positions in the ETFs and miners such as the SPDR Gold Trust ETF (NYSEARCA:GLD), the iShares Silver Trust ETF (NYSEARCA:SLV), the ETFS Physical Swiss Gold Trust ETF (NYSEARCA:SGOL), and miners such as Randgold (GOLD) and Barrick Gold (NYSE:ABX).
As we said last week, we think gold will rise much further in the coming years, but emotions and not fundamentals are ruling here and it is too crowded of a trade for us to be long with anything but our core gold position (which we maintain). We want to get back into gold but we want a much better entry point.

Low-Yield Blues? Corporate Bonds Are the Last Ones Paying

With bond yields falling further in the wake of Brexit, U.S. corporate bonds are the only game left in town

By Justin Lahart

The collapse in yields world-wide has left U.S. corporate bonds as one of the last places on earth to get relatively safe, steady income.

U.S. corporate bonds account for around 12% of all investment-grade debt outstanding world-wide, yet they now represent about 33% of investment-grade yield income, according to Bank of America Merrill Lynch credit strategist Hans Mikkelsen. Put another way, U.S. corporate bonds generate one out of every three dollars paid out by every government, business or fund that is considered investment-grade.

Like yields on government debt, the payouts on U.S. corporate bonds have fallen dramatically this year. The yield on the 10-year Treasury reached an all-time low of 1.36% Tuesday. Interest rates on 7-to-10-year bonds of high-quality U.S. companies are 3.14%, according to Bank of America Merrill Lynch. A year ago, those corporate bonds yielded 3.92%.

The relative attractiveness of U.S. corporate debt has drawn in billions of investor cash. That could be a boon for American businesses who can borrow almost unlimited amounts at almost unheard of rates, potentially boosting share buybacks, deals and, possibly, investment.

It’s a situation that has arisen as a consequence not of what investors expect from the U.S. economy so much as of the fresh rounds of stimulus from global central banks. Even though the Federal Reserve stopped buying Treasurys in 2014, both the European Central Bank and the Bank of Japan have been vacuuming up government bonds. That has pushed European and Japanese yields lower, and made U.S. bonds a relative bargain.

The U.K. vote to leave the European Union has aggravated the situation. With Bank of England Governor Mark Carney signaling Thursday that rate cuts and other measures may be needed to help steady the U.K. economy, the yield on the 10-year gilt has fallen to 0.77%. Before Britain’s Leave vote, it was 1.37%.

Government bonds still dominate the investment-grade bond market but the importance of corporate bonds has risen dramatically. Five years ago, U.S. corporate bonds represented around 9% of outstanding investment-grade debt and 13% of yield income. A year ago, corporate bonds accounted for 23% of yield income.

U.S. corporate debt could get even more enticing for global investors in the months to come.

The drop in global demand that Brexit looks likely to spark has made it more likely that both the ECB and the Bank of Japan will step up bond purchases.

For the ECB, those purchases include corporate bonds, which it began buying last month. It may need to buy even more of them, if only because it is at risk of running out of government debt that, absent rule changes, it can purchase. As it stands, it can only buy debt with yields above the ECB’s negative 0.4% deposit rate. On Tuesday, German benchmark bunds with maturities of less than nine years had yields below that cutoff.

The Bank of Japan might also consider broadening its corporate bond purchases in order to avoid owning too large a share of the Japanese government-bond market.

Such possibilities will drive more global investors into U.S. corporate bonds, driving yields lower and cutting borrowing costs for U.S. companies. That sets the stage for a pickup in debt issuance from the first half, when, according to Dealogic, U.S.-marketed investment-grade corporate-bond deals came to $441 billion versus $463 billion in the same period a year earlier.

For investors, the low yields mean they are getting paid less for the risk they are taking with bonds that, while safe, are riskier than government debt. It’s hard to say whether investors are underpricing risk, just as they did before the financial crisis. But if there were an economic downturn, or even a disruption in a specific industry, investors could be facing big, unexpected losses. The recent wipeout in the energy market is evidence that can happen quickly.

While investors could balk at the low yields, they don’t have many alternatives to get some income, at least for the foreseeable future.

So companies may soon be provided with more ammunition. Maybe, with the job market tightening and wages picking up, they will invest in new, more productive equipment in an effort to save on labor costs. Or even new projects.

If they choose the latter, it could spur the growth that central banks have been hoping for as they have driven down yields to spur more risk-taking. The reality is, rates for corporate borrowers have been extraordinarily low for years, so the latest leg down is unlikely to produce a wave of investments.

Instead, with investors’ hunt for yield in a low-rate world getting even more intense, companies are more likely to make their shares even more “bond-like.” That would argue for them using cash raised in the debt market to buy back shares and fund dividend payments. The result could be a fresh pile of debt on corporate balance sheets with ultimately little to show for it.

lunes, julio 11, 2016



Golden Fireworks

By: Bob Loukas
Golden Fireworks

This is a follow up post to last month's blog post - Gold is Ready to Perform and is an excerpt of the weekly premium report.

Gold surged on the Brexit vote a week ago, then then spent the early part of this week consolidating the gains. The net gain since the Brexit vote has been impressive, but Gold has still not regained the intraday high from the day after the Brexit vote. Since spiking to 1362 the morning after the vote, Gold has been filling and confirming the Brexit surge.

The initial spike after the Brexit vote was clearly an over-reaction, but the bullish action since has confirmed that the move higher is real. With Gold now approaching the Brexit intraday high, I believe that we should see another 2-5 day rally before the Daily Cycle peaks and turns lower. At this stage of the Cycle, any Swing High will likely mark the DC top.

Daily Gold Chart

At the end of 2015, the precious metals Miners were undervalued in relation to Gold by a historical amount, and the January-May Gold Investor Cycle (IC) allowed them to play catch-up. I have shown the Gold:Miners ratio chart numerous times in the past to illustrate how Miners typically catch the first real bid during bear market turns. And that's what happened during the 1st IC. Now, the other precious metals can make their own runs.

Silver has taken off as only Silver can. It has already become significantly overbought, but the current move is showing no sign of stopping, and could become epic. It's important that we recognize the move for what it is, maintain our composure and hold through the dips where appropriate. Silver is still trading at a historically massive discount to Gold, but it doesn't need to catch up all at once.

There is plenty of time for it to do so in coming Cycles.

Platinum and Palladium were also big winners this week. They have been underpriced (relative to Gold) and both saw broad-based buying. And as the end of the bear market has become clearer to investors, the entire precious metals sector has received an increasing flood of money.

Weekly Silver Chart

The Miners are seeing buying across the board, and even the laggards and lessor quality names have begun to see bids. And that's fine. Increasing participation confirms the bull market and tells us that we're still very likely only in its early innings.

Recent history has not seen the precious metals Miners bullish percentage index ($BPGDM) pegged at 100, and the fact that it is now is a clear sign that we're comfortably into the bull market's next phase. It's also, however, a warning that we're likely beginning to approach the next DC top.

BPGDM Daily Chart

There is not much room for alternative analysis. The entire Gold sector is in the prime portion of the Cycle, and speculators have begun to lift the market higher. We've prepared for this outcome, and must be aware that short term, violent, counter-trend hits are possible at any time, as over-leveraged speculators bail on positions. Each of us needs to avoid being chased out of positions by making sure they are correctly sized, and that leverage is appropriate.

As predicted when the DC started (some $100 ago), we are likely to have another 6-10 weeks higher in the current Investor Cycle. My minimum target is $1,420, but my expectation is that the IC will top somewhere between $1,450 and $1,480. Be smart about your entries and exits - it is best to buy during dips and sell some during rips, as opposed to becoming excited during surges and adding leverage at the end of intraday moves. Most investors will be best served by not watching the tape too closely and by being content with the positions they have.

Weekly Gold Chart

The Goldilocks Strategy for Prudent Investors


ARE you saving for retirement but worried about how to handle a sudden, unexpected expense? Or already retired and wondering how best to protect yourself against a stock market loss?

Many people with those fears set aside a so-called rainy-day fund, keeping large sums in their bank accounts or money market funds. This is a costly mistake, rivaled only by the excess fees too many investors pay to high-cost money managers.
When I ask people why they do it, they say things like “in case I wreck my car” or “in case my house burns down” or “in case I have a medical emergency.” But problems of this sort require large cash outlays only if you are not insured. And the remedy for this is to make sure you are adequately insured, rather than create a big rainy-day fund that earns vastly inferior rates of return compared with stocks and intermediate-term bonds.
You will need a lot of cash, of course, when you retire or if you join the ranks of the long-term unemployed. Under those circumstances, however, you will need that money over a protracted period of time. There is no reason that the resources to finance this spending stream should take the form of low-interest bank deposits or money market funds, which inevitably will fail to keep up with a rising cost of living, even if inflation remains modest.
Instead, to minimize the real risks we all face in meeting our unknown, long-term financial obligations, you need a different strategy, one that produces reliable, spendable cash flow and superior returns, minimizing the likelihood that the inflation-adjusted value of your portfolio will decline over time.
The best way to achieve those goals is to avoid “perfectly safe” cashlike assets, relying on your savings account or money market funds only for a 30- to 60-day cushion to cover your day-to-day obligations, plus enough extra at times to satisfy those occasional outsize expenses like a child’s college tuition bill that is due in the next few months.
After that, your primary goal is to build wealth. Not surprisingly, equities do best. That’s why most of your money for your retirement should be invested in stocks.

But you may not have realized that intermediate-term bonds, over the long run, are superior not just to cash but to long-term bonds as well. So when thinking about where to invest your fixed-income assets, remember Goldilocks: The best place to be is not too long and not too short.
The return you expect to earn and the risk associated with bonds rise as maturity lengthens. But the rates at which they rise are neither uniform nor equal. At first, as you move out of cash into short-term bonds your expected return rises rapidly, but risk — if we define it as the chance that you will lose to inflation — actually diminishes.
That’s why the shortest-maturity investments like money market mutual funds and Treasury bills are among the worst investments you can make.

The Real Risk in ‘Risk-Free’ Investments 
Short-term Treasury bills, like bank accounts and money market funds, are sold as risk-free investments. But for anyone saving for the long term, the returns would barely keep up with inflation, and would be eroded even further after taxes. By contrast, stocks and intermediate-term bonds offer the greatest rewards compared to the risks that they will underperform over shorter periods.

As you then extend your maturity from short-term bonds to intermediate, the increase in return slows down and risk begins increasing, but the trade-off between the two seems commensurate. Extend your maturity beyond intermediate, however, and the additional expected return that you gain seems wholly inadequate compared with the amount of extra risk incurred.
With long bonds you are at the mercy of the inflation gods: If inflation is low enough, you can win big; if it’s high enough, you get buried.
The moral of the story: Don’t put your money in long bonds (too risky) and don’t put your money in money market funds or bank accounts. The latter give up way too much return for the (supposed) perfect safety of zero fluctuation in the value of your investments.
Instead, the place to be is what is essentially a large “sweet spot” between short and intermediate. That’s where the reward-risk trade-off is at its greatest.
But what about those of you who have been investing in long-term bonds, which have done very well since the early 1980s? All I can say is: Fabulous market timing! As Morningstar reports, for the 34 years ending 2015, long Treasuries offered a compounded return of 10.1 percent per year, a pace that was much better than intermediate Treasuries’ 7.5 percent and not all that unfavorable compared with stocks’ 11.5 percent.
But it’s worth remembering that at the end of 1981 long Treasuries were yielding more than 13 percent and were about to begin a decades-long decline that produced hefty capital gains. With long-term Treasuries now yielding just 2.3 percent (and yields on non-Treasuries not much higher), you are all but certain to have inferior returns on long bonds unless we enter an extended period of deflation. With the unemployment rate at a low 4.7 percent and underlying inflation running around 2 percent, I would not bet on that.
Indeed, long-term bonds can be a horror show. Over the long period that stretched from 1940 to 1981, long-bond returns averaged 2.2 percent while inflation advanced at a 4.7 percent annual rate.
The value of such assets dropped nearly 63 percent in real terms, even if you never spent a dime.
After taxes, you would have lost 70 to 75 percent of your money.
Fortunately, not many investors keep a large share of their funds in long bonds. Many more fall prey to the irrationally strong preference for perfect stability: Bank accounts and money market funds capture almost 30 percent of individual investors’ liquid financial assets.
That’s a sucker’s game, with no chance to earn the higher coupons that are routinely paid by bonds with modestly longer maturities. For the 90 years ended 2015, investors gave up 1.7 percent a year, compounded, if they stuck to Treasury bills instead of being willing to invest in intermediate Treasuries.
Obsessing over downside risk costs investors a great deal of money, reducing their standard of living in retirement. And speaking of not obsessing over acceptable risks, it’s even better to avoid Treasury securities in favor of low-cost mutual funds that invest in either corporate or municipal bonds. The extra yield these bonds pay (after tax) swamps the tiny costs they incur on those rare occasions when bond issuers default.
The point of accumulating assets is not so that you can spend them down quickly in retirement, for once you spend them, you are broke. The point is to mainly rely on the income they produce.
And, of course, income does not mean simply nominal income, but real (inflation-adjusted) income.
And in this regard, equities do best, while within the universe of fixed-income investments, intermediate maturities offer you the best odds of beating inflation during the course of your lifetime.