Stuyvesant Town/Peter Cooper VillageWe have seen a massive transfer of private debt into the public arena during the past two years. Governments the world over have socialized huge blocks and market segments of previously held individual and corporate debt. Even the recent default by the borrowers on Stuyvesant Town / Peter Cooper Village will add enormous tabs to already bloated government deficits. High profile holders of the deal’s subordinated debt and equity include sovereign wealth funds and banks that are assumed to be backed by Uncle Sam and his overseas cousins. Of course, the taxpayer is always left holding the bag. The alternative (let the banks go bust) could have been worse and I guess and hope that we never will know. Markets are rightly worried that these policies will ultimately lead to hyperinflation or staggering devaluations of the major fiat currencies. What is missing from the recent discussion is that all this may be very good for government and high quality agency bonds! It is the other side of the hyperinflation / devaluation argument.

Governments the world over can and may raise taxes and cut spending. Team Obama has already proposed spending freezes to limit and ultimately reduce the deficit. Sure, it tough to put your faith and money behind any politician but we have already seen a massive tightening of policy. Proposed curbs on bank activity, bank restructuring and enforced sovereign fiscal discipline (e.g., in Greece) and higher taxes. Confiscated wealth may ultimately compress economic activity and lead to less red ink for government’s budgets. Sure it is a long shot but it is certainly one of many potential outcomes. The point is that the last two years were all about adding support and liquidity to financial sector. The next two may be about reversing that support. If that the is case, you want some bonds in the box.





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2 Comments so far

  1. Steve Burke on January 27, 2010 8:59 am

    Government bonds of just about any country have to be the most hated asset class on the planet right now. They've already had a good start to the year, and I expect they will outperform many if not most other instruments in 2010.

  2. paolo pezzutti on January 27, 2010 1:45 pm

    I think instead that no politician is willing to be unpopular reducing the deficit and cutting spending. They will say it only as a facade, but actually what they will do is just to continue spending to keep the boat going. Until it is possible…or to the next elections. In Greece they may have no other alternatives: either this or leave the Euro which would be a terrible blow. What happened in country like mine, Italy, is that a debt so high (more than 100% of gdp), even if you are responsible on the deficit side, does not provide any kind of flexibility to the government in power. And working to reduce debt is like trying to sail headwinds: very hard.


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