Last year’s worst-ever year is making way for something new
Ric Edelman: It's Thursday, August 24th. The junk bond market is $1.3 trillion, down 200 billion in just the past two years, a decline of 13%. The reason? High interest rates. Companies with shaky finances are struggling to borrow money. They don't want to have to pay today's high rates, but if they don't, they're not going to have the money to stay in business.
Only 39 companies have gotten junk loans this year. That's the lowest since 1995. Average yields are 8.7%, some as high as 14%, the highest real yields in 12 years without having to take uncomfortable risk. 2022 last year was the worst year for bonds and at least 100 years. Some say it was the worst year ever. TINA is dead. There is no alternative. People were investing in stocks because there was no alternative. TINA well, TINA is now dead. Enter Barbara. Bonds are really back and really attractive. PIMCO is the largest bond fund manager, $1.4 trillion in assets, and they're enjoying massive inflows, $6 billion in July alone. Investors have sent to PIMCO to add to their bond funds.
Is the Fed going to ruin this party? The Fed is responsible for last year's horrible bond losses of nearly 20% because the Fed raised interest rates five times from near zero to near 5%. As rates go up, bond values go down. But now the Fed is easing up on its bond buying. It's dumped $1 trillion of bonds into the market and it's going to dump another $1.5 trillion by 2025. And that means the biggest buyer of government bonds is no longer a buyer. Will this cause interest rates to go through another round of increases like we had last year? If that were to happen, we'd see another year of big bond losses.
The IMF says they expect rates to rise another quarter point, not all that much, and the market has already priced that into bond prices, but that might be too narrow a viewpoint. The problem is the federal budget. The Fed might not want to buy treasuries, but the Treasury Department is going to have to keep issuing them anyway. And the Congressional Budget Office tells us why. The US debt held by the public is going to be more than GDP this year, and interest on that debt is now three quarters of all the discretionary non-defense spending of our nation. By 2031, interest on federal debt will equal 100% of our discretionary non-defense spending.
You know, we don't have any choice about spending on Medicare, Medicaid and Social Security. We really don't have a practical choice about defense spending either. So, if you think about it, the US Government is really just an insurance company with an army. It's even worse than what the CBO forecast says. That's because the Congressional Budget Office assumes that the government will only be paying 3% interest on its debt. But interest rates are already a lot higher than that. And with the Fed stopping its buying of federal debt, those rates are going to go even higher. Still, do the math. Three quarters of all treasuries come due within the next five years. They've all got to get rolled over; if interest rates are just one point higher the federal government will have to spend an additional $3.5 trillion in interest payments. And to pay for it, it's going to have to borrow another three and one half trillion in new debt.
By 2033, the government spending on interest alone will be $2 trillion. Guess how much the IRS collects in individual income taxes every year? Only 2.5 trillion. In other words, almost all the money we collect in taxes is going to go to paying interest on the debt. You want to explain to me how this works with the federal budget? Now, there are lots of solutions available. We can reduce spending. We can reduce interest rates. We can find lots of overseas buyers for our debt. We can have the Fed start buying bonds again. Of course, we can also raise taxes. So, you need to make sure that your bond portfolio is diversified. And there are great options available from PIMCO, Invesco, Franklin Templeton, Global X, Schwab, Fidelity and BlackRock's iShares for you to consider.
You know, I like to talk about the things that matter most. So, I encourage you to listen to my wife Jean's podcast, Self-Care with Jean Edelman, her new weekly episode comes out today. Jean shares her experience and knowledge with you on self-care, mindfulness and overall wellness. You can listen to Jean everywhere you get your podcasts and you can also subscribe to SelfCarewithJean.com.