Spurious Tales Of Impending Doom

Mint – Blain’s Morning Porridge  - April 28 2014

Spurious tales of impending doom enabled the people to rid themselves of an entire useless third of their population..

Alarm bells ringing in my head this morning as I read the news Apple is launching $17bn of new bonds, some of it at record low rates in euros. I can’t fault Apple for the strategic sense of the bond issue – of course the company should fund its stock-holder pleasing extra dividends via debt rather than paying 35% tax if it repatriated its cash pile. However, step back, think about it and wonder what signal does it send about bond markets?

Will the Jumbo Apple Bond Issue (JABI) become as reliable an indicator of bond exhuberance as the Ukrainian Chicken Farm Moment once was for primary markets?  I mean… what’s not to like about a tech company that has loads of money ($130bn) sitting around, but is so unimaginative in finding things to do with it that it’s going to give it back to shareholders? But instead of actually giving them that cash, it arbs tax to pay stockholders with bondholders money? Is it just me?

Or is it just me that wonders how the company that used to produce the most desirable “bright shiny things to make it all better” hasn’t actually launched anything exciting in years, and the imaginative/innovative legacy of Steve Jobs is now directed towards making money by transferring assets from Australia to Ireland to benefit from better tax environment? Is it just me? Is it just me that’s going to buy a Samsung?

But enough about Apple. As rates remain historically low, it’s a fantastic time for corporates to be raising debt. Use cheap bond market financing to rejig/rebalance corporate pension funds. We reckon corporates raising debt to buy bonds (and exiting stock) to structure their pension liabilities has been a major factor fuelling corporate spread tightening. Or you can use bond cash to pay off stock holders. Or to build war-chests, although we ain’t seen as much of that as you might think.

Why?

Corporate expectations of growth aren’t perhaps as high as we’d like after seven years of global financial crisis.. Sure, corporates have done rather well during the period – defaults are down and generally balance sheets are in very good order. But what are future prospects?

Talking to knowledgeable folk from markets and academia I’m wonder about what I’m going to call “zero-growth” factors.  One is the sheer scale of resources now devoted to non-economic activities. I’m talking about the multiple layers of civil service bureaucrats, layers of health service management, “relationship managers” within banks, the entire regulatory/compliance/kyc industry, the entire Eurocracy… you know exactly what I mean. These folk need to be paid – and the greatest threat facing most western economies is not Russian unpleasantness over the Ukraine, but how to pay the bloated pensions of civil service drones.

In the same bracket is rising corruption – the effect of corruption on economic activity is severely underestimated by markets and planners. It’s not just the redistribution of cash from the many to the few, but the motivational effects on future growth and consumption. Ukraine is a classic example of a state that’s come close to failure on corruption, but I’m told the rising scale of corruption in Italy should not be glossed over. It's growing.

The second are consumption factors. For instance, have you noticed how minimum wage legislation has gone from being a critical support for the lowest paid in society to becoming a maximum wage threshold for the vast bulk of unskilled labour? The end effect is to dramatically reduce the consumption function potential of these workers, and further skew income inequality. If folk ain’t able to consume, what’s the point in producing?

To use a biblical metaphor, we’ve just had seven bad years, but the granaries are set and ready for seven years more of misery. That’s probably good news for bond markets – if the mood remains cautious, then the moment of the great bond rate hike is pushed backed.

Meanwhile, what are the other threats? Markets are showing a nervous disposition towards the geopolitical threats this morning. The North Koreans are going off on one again while there are as many opinions as there are Soviet tanks on the border when it comes to Ukraine. What’s the likely outcome? Messy. Russia continuing to fuel East Ukraine resentment pushing the country towards failure, while the West dithers about retaliatory action and the escalating costs of bailout. It’s not a great way to start the week is it?

Out of time..

Bill Blain

0207 786 3877

[email protected]

[email protected]

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