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Bonds Are Not Forever: The Crisis Facing Fixed Income Investors

Bonds Are Not Forever: The Crisis Facing Fixed Income Investors

Simon A. Lack

ISBN: 978-1-118-65953-3 September 2013 240 Pages


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An up-close look at the fixed income market and what lies ahead

Interweaving compelling, and often amusing, anecdotes from author Simon Lack's distinguished thirty-year career as a professional investor with hard economic data, this engaging book skillfully reveals why Bonds Are Not Forever. Along the way, it provides investors with a coherent framework for understanding the future of the fixed income markets and, more importantly, answering the question, "Where should I invest tomorrow?"

Bonds Are Not Forever chronicles the steady decline in interest rates from their peak in the 1980s and the concurrent drop in inflation during that period. Lack explains how those two factors spurred a dramatic growth in borrowing among both governments and individuals. Along the way, Lack describes how a financial industry meant to provide capital needed to drive productivity and economic growth became disconnected from Main Street and explores the grave economic, social, and political consequences of that disconnect.

  • Provides practical solutions for avoiding the risk of falling bond markets and guaranteed negative real returns on savings
  • Explains how the bursting of the real estate bubble in 2007–2008 led to massive borrowing by governments as they attempted to offset a sharp fall in economic activity
  • Details how the trends of exploding debt and a financial sector that has grown much bigger than it needs to be have dramatically changed the game for savers

Offering a uniquely intimate, yet analytically thorough look at the coming fixed income crisis, Bonds Are Not Forever is must reading for investment professionals, as well as retail investors and their advisors.

Preface xi

Acknowledgments xiii

CHAPTER 1 From High School to Wall Street—The Bull Market Begins 1

Inflation Memories

As Bad as It Gets 4

Trading in Gilts 5

The Old Class Structure 8

A Nineteenth-Century Market 11

Finance Starts to Grow 12

Is Finance Good? 16

Investing after the Bubble 20

CHAPTER 2 A Brief History of Debt 23

Interest Rates in Ancient Times 23

Medieval Credit 26

The Beginnings of Modern-Day Finance 28

Borrowing Reaches the Mass Market 31

Student Debt 39

Big Borrowers in History 43

What We Owe Now 45

CHAPTER 3 Derivatives Growth 51

Welcome to New York 52

Early Derivatives Growth 56

Swaps Take Off 61

Size Isn’t Everything 65

Derivatives Reach Omaha 67

Norwegian Wood 69

CHAPTER 4 Bond Market Inefficiencies for Retail 73

A Simple Market Model

Stocks Are Fairer than Bonds 76

Why Change Is Slow 79

Structured Notes 81

The Internet Threatens the Swaps Oligopoly 84

Municipal Bonds 87

CHAPTER 5 Trading Derivatives 93

Before Banks Were Exciting Computers and Swaps 96

Should Banks Innovate? 97

Growth in Innovation 99

Volcker’s Problem 102

Bring Me Clients with a Problem 103

Derivatives Missteps 105

Trading by the Book 107

An Options Book Blows Up 110

CHAPTER 6 Politics 115

Government-Controlled Investing Why Should We Worry? 116

Who Says There Is a Problem? 120

Look to the Future 128

Looking Ahead 129

Monetization—A Thought Experiment 133

Imperial Overstretch 136

More Debt Means More Banking 141

CHAPTER 7 Managing Risk 1990–1998 143

Risk-Oriented Market Making

Traders and Risk 145

Why Traders Are Bad at Budgeting 147

The Growth of Global Trading 149

Managing Obscure Basic Risks 152

What’s the Social Purpose? 155

Wall Street Fuels the Debt Growth 156

CHAPTER 8 Inflation 165

Germany’s Defining Economic Experience 167

Inflation Today 170

The Fed’s Huge Mistake 174

You Can’t Spend Quality Improvements 177

What Critics Say 181

Measuring What They Can, Not What Counts 183

CHAPTER 9 Bonds Are Not Forever 189

Putting It All Together

Wall Street Built It 192

Make Your Own Bond 195

High Dividend, Low Beta 198

Hedged Dividend Capture 201

Master Limited Partnerships (MLPs) 202

Deep Value Equities 205

Debt Is Bad 205

Bonds Are Not Forever 207

References 209

Glossary 215

About the Author 219

Index 221