The current U.S. bond market faces a "liquidity cliff" and looks like an asset "bubble" that could burst when interest rates start to rise, according to the senior U.S. securities regulator. This is something we have been warning of in recent months.
The consequences of the bursting of the bond bubble would be rising interest rates which would likely impact property and stock markets and benefit safe haven gold.
Exter's Golden Pyramid
Securities and Exchange Commission (SEC) Republican member Daniel Gallagher said over a year ago that the $3.7 trillion municipal bond market may suffer"Armageddon" once interest rates climb.
The Fed has continued ultra loose monetary policies and debt monetisation for more than six years now. It has kept its benchmark interest rate near zero since December 2008. The Fed already employed three quantitative easing rounds buying up bonds to help stimulate the U.S. economy after the financial crisis. The Fed maintains that the program will end this month and many investors expect the Fed to move to a tighter monetary policy. However, we believe that if the Fed increases rates, it would likely lead to a sharp recession and possibly a Depression. It would also likely lead to serious volatility in markets and the risk of a triple stock, bond and property crash.
There has been jitters in bond markets in recent days. PIMCO saw $448 million in fund outflows last Friday. Bill Gross's departure from PIMCO to join Janus Capital Group is being blamed for some of the jitters but it may be that investors internationally are concerned about over valuation in bond markets and heading for the exits - before the stampede begins.The consequences of the bursting of the bond bubble would be rising interest rates which would likely impact property and stock markets and benefit safe haven gold.
Exter's Golden Pyramid
Securities and Exchange Commission (SEC) Republican member Daniel Gallagher said over a year ago that the $3.7 trillion municipal bond market may suffer"Armageddon" once interest rates climb.
The Fed has continued ultra loose monetary policies and debt monetisation for more than six years now. It has kept its benchmark interest rate near zero since December 2008. The Fed already employed three quantitative easing rounds buying up bonds to help stimulate the U.S. economy after the financial crisis. The Fed maintains that the program will end this month and many investors expect the Fed to move to a tighter monetary policy. However, we believe that if the Fed increases rates, it would likely lead to a sharp recession and possibly a Depression. It would also likely lead to serious volatility in markets and the risk of a triple stock, bond and property crash.
Given concerns about the crisis on global bond markets and indeed the wider financial system, it is worth remembering one of the greatest central bankers of the modern era, John Exter and his insightful 'golden pyramid' (see above and below).
John Exter is known for creating Exter's Pyramid, also known as Exter's Golden Pyramid and Exter's Inverted Pyramid.
John Exter (September 17, 1910 – February 28, 2006) was a highly respected American economist, member of the Board of Governors of the United States Federal Reserve System, and founder of the Central Bank of Sri Lanka.
His golden pyramid allowed for the visualisation and the organisation of assets and asset classes in terms of risk and size. Exter rightly believed that gold is the safest asset and therefore gold forms the small base as the most reliable value and the asset classes on progressively higher levels are more risky.
The larger size of asset classes at higher levels is representative of the higher total worldwide notional value of those assets. While Exter's original pyramid placed Third World debt at the top, today derivatives hold this dubious honor.
Exter was highly respected for his great intellect and he also had all the mainstream credentials. He was Harvard educated, a Federal Reserve economist, a member of the Council of Foreign Relations and quite unusually among mainstream insiders, Exter believed in gold as money and a store of value.
He was a friend of the great Austrian economist, Ludwig von Mises. and debated the inflation versus deflation argument all the time with von Mises.
Given the huge levels of government debt throughout the developing and developed world, global bond markets today are multiple times bigger than they were in the 1970s when Exter created his pyramid.
In the event of another global financial crisis which we see as quite likely, capital will again flow from the riskier assets at the higher levels of the pyramid into the base of safe haven gold. While bonds were the beneficiary of the last financial crisis, they may be the nexus of the next financial crisis.
The stock of assets in the world today is multiple times bigger than it was in the 1970s and thus, gold appears very undervalued. Should we see capital flight from U.S. and global bond markets, gold should see gains on a par with those seen in the second half of bull market in the 1970s.
Many said that gold's bubble had burst when it fell from $200 to $100 per ounce from December 1974 to August 1976.
"Experts" warned that gold would fall as interest rates rose. The opposite happened and as interest rates rose, gold rose more than 8 times in 3 years and 4 months, to $850 in January 1980.
History does not repeat, but it frequently rhymes ...
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