As economic growth improves and inflationary pressures push the Federal Reserve to consider cutting back stimulus measures, a new phase is looming in the $21 trillion Treasury market, according to Bob Prince, co-chief investment officer for Bridgewater Associates, the Financial Times reported.
Prince runs Bridgewater Associates with Ray Dalio, who founded Bridgewater Associates, the largest hedge-fund firm in the world. They manage $150 billion in assets and Dalio has an estimated net worth of $20.3 billion.
Prince warned that the recent sell-off in U.S. government bonds could accelerate, a shift that threatens high-flying assets including SPACS — blank check companies — and cryptocurrencies, Financial Times reported.
The rally in risky assets, which has been happening for close to a year, “really depends on . . . whether (the Fed) bumps into constraints,” Prince said, adding that it “will typically be inflation, currency deflation or call it the bond vigilantes, where people just say, ‘Hey, forget it. With that much (money) printing I just don’t want to own bonds.’”
Fast-growing tech companies such as Tesla, Amazon and Netflix, whose high valuations have been braced by low rates, have already been affected as inflation expectations picked up this year, hitting the price of U.S. government bonds and inflating their yields.
The booming market in SPACs — special purpose acquisition companies — and the surge in cryptocurrencies such as bitcoin are a “manifestation of that environment” created by government stimulus and loose monetary policy of the U.S. central bank, Prince said.
The less money investors can make on bond yields, the more money they might instead put into potentially higher-returning assets like bitcoin, former Treasury Secretary Lawrence Summers told CoinDesk, according to a Jan. 20 report.
SPACs, aka blank-check companies, go public as cash shells, with sponsors later identifying an operating business to merge with. There are 346 U.S. shell companies in the StockMarketMBA database. In 2019, 28 SPACs closed deals — a record-breaking year. By December 2020, SPACs represented most of the growth in the U.S. IPO market, raising $79.87 billion gross from 237 SPACs.
Fed policymakers have dismissed the Treasury sell-off as a healthy reaction to the burgeoning U.S. economic recovery. However, Prince said investors could have problems as the central bank responds to higher long-term yields.
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“Does the Fed come in and print money and buy the bonds to keep the bond yield from rising in that environment?” he asked. “And with inflation rising and the economy doing better and the bond yield going up, do they keep it from going up or do they let it go? If they do yield curve control, do they risk the dollar?” “Either way it hurts you,” added Prince. “Either the bond yield goes up or the dollar goes down. That’s the risk of the second stage of a bond move.”
A large move by investors out of government-issued bonds is a sign that individuals, banks and institutional investors have lost confidence in that government’s ability to pay its debts, according to Zacks. This happens most often when a country spends too much money and collects too little in taxes.
Prince said he’s also troubled by the growth of index investing, according to Financial Times. With low rates leaving yield-hungry investors few alternatives to equities, he said, index funds were paying ever-higher prices for stocks with lower future returns. “It has the look of a Ponzi scheme,” he said, “because if you can sell it on to someone else that’s fine but what happens if you can’t.”
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