Most investors are not stupid, but if you follow the trail of money they leave there does seem to be an awful lot who just don’t think about where they park their hard-earned savings – and that could be another pointer to a much stronger-than-expected stock market next year.
Unfortunately, the latest piece of evidence to build on last week’s optimistic forecast that 2013 will be a better year than is widely believed also demonstrates that people really do have a herd mentality when it comes to money.
And, over the past year the herd has been stampeding into government bonds and other forms of allegedly super-safe havens, even as returns have plummeted.
According to a firm which follows money flows, Hedge Fund Research (now known as HFR Database), a milestone in fund allocation might occur in the next few weeks with the amount of money in bonds exceeding equities (shares) for the first time -- ever.
The information collated by HFR is very much linked to the British, American and European markets where the global financial crisis remains alive, and kicking.
But, what happens in the major markets of the world has a habit of spilling over into smaller markets such as Australia quite quickly; another example of the herd at work.
HFR’s research, which looked at funds which have either a fixed-income focus or an equity-trading strategy, covered an estimated $US2 trillion in funds under management, a mountain of money which is bigger than the annual output of the Australian economy.
What it found, as noted yesterday by London’s Financial Times newspaper, is that the shift out of equity-based funds has been accelerating as investors rushed for safety, despite the fact that the price of safety has become very high.
German five-year “bunds” for example, are currently yielding 0.29% or, for the super-safety conscious, you can lock up your savings until the year 2144 and receive a return of 2.24%, though why anyone would invest for 32 years is an interesting question – almost as interesting as the fact that after inflation they would get a zero (0%) return on their money.
Germany is not alone in the giant “bond bubble” which has developed around the world thanks to the flight to safety, triggered by the GFC. U.S. two year treasury bonds are paying 0.24%, and 30-year bonds are paying 1.63%.
Most investments in super-safe bond investments are losing money on an investment yield basis. In effect, people are paying governments a fee to park their savings because they’re worried about a prolonged recession which will wipe out conventional companies, destroying both their share prices and ability to pay dividends.
Fear of Armageddon is one way of describing the rush to safety, but while that might have had a rational explanation in 2008, or during the latest bout of global uncertainty, the stampede has been dramatically overdone, creating an unnatural asset allocation mix.
Unwinding this “bond bubble”, which is what you can rightly call any asset class over-inflated with money, will be a spectacular event to watch, producing big winners and big losers.
The losers will be savers who keep their money in bonds as the world crawls back towards some sort of economic normality, which is what’s happening now, because normality means rising interest rates and falling bond prices.
Depending on when an investor bought, the danger is being locked into an underperforming asset with buyers pushing down the capital value.
Meanwhile, over in the equity markets the seeds are being sown for recovery as burned bond investors extract their savings and re-allocate it to dividend paying companies which are currently offering highly attractive yields.
One Australian example illustrates the imbalance that has developed in investment markets.
Westpac is currently offering rates varying from 2.5% for short-dated deposits (one to six months), and up to 4.65% for a five year deposit.
You would have to be a very worried investor to take that sort of return on your money when you can buy Westpac shares today for around $25.90 and enjoy a dividend yield of 6.4%.
Fear of catastrophic failure is what seems to be dominating the thinking of European and American investors, despite evidence that the world is bumbling its way out of five years in a dark place.
Whether the historic funds flip of there being more money allocated to fixed interest than equities is a hang-over from past, or a pointer to an even darker future will be interesting to watch.
But, there is no doubt that the smarter money managers can see a bond bubble getting ready to burst and when it does there will be a fresh rush by the herd, back into equities.
Will the herd never learn?
That’s a rhetorical question, by the way. Of course it won’t. Herds never learn, people learn.
Moral of the story, be a people, not a member of the herd.
