Credit markets tend to be more efficient than sharemarkets. And they move earlier. What happens in debt markets will often determine what happens in equities.
Those with a short to medium-term memory will recall the fortuitous precision with which John Kinghorn sold RAMS to the sharemarket in mid-2007.
Just days after the RAMS float, as Kingo deposited a cool $650 million in his Smart Saver account, the credit crisis hit the headlines, sharemarkets tanked and RAMS shareholders racked up some very significant tax losses.
Again, the next year, events in debt markets reliably foreshadowed the relentless spiralling down in global sharemarkets.
As credit spreads returned to normal in 2009, the sharemarkets recovered, until this year.
What, then, are credit markets telling us now? One, we are headed for a global recession. And, two, if the twin deadlocks over debt in the US and Europe are not resolved – something worse.
The first thing to notice is the flight of capital continues apace, out of Europe and into the US treasury bond market. The yield on a US 10-year treasury is just 1.92 per cent. That’s a low rate for 10-year money. Then again, two-year paper is yielding just 0.26 per cent. Money, in other words, is virtually free.
Bear in mind that price and yield are inverse so, as buyers flood into the “safe haven” of the world’s biggest and most liquid market, bond prices rise and interest rates fall.
This is good for America in that Washington can refinance its leviathan $US15 trillion in borrowings at low rates. The opposite holds for Europe, though. And this is now the world’s most pressing problem.
Unlike America – where the Fed has been simply printing money, splashing $US800 billion buying its own bonds this year alone – Europe has yet to resort to the printing press.
Bond yields in Italy and Spain having been flirting around the 7 per cent mark – too high, and the same level at which Ireland and Portugal were forced to seek bailouts.
Unless rates come down, these peripheral countries can hardly refinance their mountain of debt.
Interest-rate spreads between the weak and the strong countries in Europe had already blown right out until recent days, when even the demand for German and Dutch paper began to dissipate.
And this really spooked markets. If the US was the world’s safe haven, Germany was Europe’s. Then came the failure of a German bond auction on Wednesday.
By baulking at a yield of 1.98 per cent, investors were merely being rational. The yield on offer from the Bundesbank was below the rate of inflation. As an investment, buying bunds meant backpedalling.
Nonetheless, the failure came as a shock. It was viewed as a vote on the euro. Indeed, for the next two days, there was more of the same thing we have seen all year – European leaders petitioning each other, and everybody, to do something.
Deadlocks everywhere. Three basic outcomes: the European Central Bank prints money and the euro zone stays intact, the weak countries tire of austerity and leave, or Germany itself defects.
Even as stridently reluctant as Germany is to debauch its currency by cranking up the presses – not to mention its reticence in going guarantor for Europe’s fiscal layabouts – the heat is on. The calls intensified this week from the rest of Europe for Germany to relent.
Meanwhile, Australian 10-year bonds fell to record lows of 3.18 per cent this week as three-year money dipped below 3 per cent.
Mortgage holders might care to take the glass half-full approach and look forward to a cash rate cut down to 3 per cent. On the other hand, a glass half-empty perspective would be deep recession.
We had some fun this week reporting the analysis of one Geoff Dunsford, an actuary who had roasted the health lobby for its figures on obesity and smoking.
These afflictions are apparently costing society $58 billion and $31.5 billion respectively, each year.
Smokers and obese people are, of course, doing everybody a favour by generally not sticking about too long after their working lives have ended to be a drag on the public purse; you know, pensioning-up, hanging around the doctor’s for a yarn, clogging up the roads.
Anyway, Dunsford struck at the heart of the fancy valuation methodology. It came down to VSL, the value of a statistical life.
Multiplying the number of disability-adjusted life years (DALYs) by the value of a statistical life years (VSLY) accounted for $50 billion of this $58 billion in costs of obesity.
That’s right, a hypothetical price for a hypothetical person who is never going to cost anybody anything anyway.
The sparkling gem was the schism between the VSL for an obese person at $6.35 million and the VSL for a smoker at just $2 million.
What of the countervailing effects of smoking on obesity? Should the obese person’s VSLY of $266,843 (VSL per year) decrease by $53,267, which is the smoker’s VSLY, were the obese person to take up smoking, lose weight but then die of lung cancer?
Should we add a premium to the big smoker-drinker demographic for the entertainment they bring to other people’s lives? Surely this is a non-financial benefit, against the $50 billion in non-financial costs, to society?
Obese, drinking smokers usually have a superior sense of humour and, hence, their loss arguably imposes a greater cost on society than the loss of a dour, skinny, smoking non-drinker.
A press release should be issued immediately, headed: “Loss of Party Animals Costs Australian Taxpayer $89 billion p.a.”