It's very important that everybody recognize that today's interest rates are not high. A 5.3 or 4% 30-year bond is very low relative to history. It's only high relative to recent history. And I argue strenuously that the recent history of interest rates is the aberration.
Might that not mean that we're going to see even higher yields? If this is kind of a low relative to the rest of history, would you expect that it would continue to go up?
I think the most important thing and I think the thing we can say with more confidence than almost anything else is that interest rates probably will not be going down much if at all in the coming year or two let's say.
Welcome to Profy Markets. I'm Edson. It is September 24th. Let's check in on yesterday's market vitals. The major indices declined as US treasuries sold off. More on that in a second. Brent crude spiked above $103, adding pressure to the sell-off. And on Cali, the odds of another rate hike next month rose to 66% and the odds of a third hike later in the year rose to 34%.
Okay, what's happening? The bond market continues to flash bright red. Yesterday, the 10-year Treasury yield ripped above 5.1% to a fresh 19-year high. The 30-year yield returned to levels not seen since 2004. And even the 5-year yield breached 5%, the highest since before the financial crisis. That was despite the Treasury's attempt to bring yields down with a historic buyback program weeks ago. Treasury Secretary Scott Bessant bought $6 billion worth of longdated bonds and still yields went up and Bessant's second buyback operation. Another $6 billion is set to happen today. Well, our guest today says that the rise in yields is no surprise. In his new memo, legendary investor Howard Marx argues that the Treasury's response was a cosmetic fix to America's economic problems. He says that buybacks will not solve a situation that is structurally unsound. He joins us today to explain why. Howard Marx, thank you for joining us. Looking at the yields, the 10-year is back at its highest levels in years. Uh the 30-year, close to 5.4% highest levels in decades. The Treasury has tried multiple times to stop the bleeding here. It isn't working. What is going on here? What is the bond market telling us?
Well, you know, Ed, uh we never know exactly what the market is saying. The market doesn't tell you what it's saying. It only does something and you can uh infer from what's going on around you what the causes might be. But um you know uh when rates go up, what it other than when government puts them up, what it basically means is that people want more yield from a given investment.
Now, why might they want more yield? The obvious reason is because if they think if they lend you $100 today, when you pay them back in 30 years, it'll buy less. And so, they need a purchasing power protection or inflation premium in the yield uh to to uh compensate for that. And that's the common. The other reason that yields go up is because they think that the proposition has become riskier. So if they lend you $100 today, the probability that they get $100 back in 30 years, it may be a little less. So some risk. Another reason that yields go up is because there's a lot of demand for capital. And so you have to a given use of capital has to compete with all the other uses to to attract it. So, you know, yields on on investment X go up uh to to make sure that it goes to X rather than Y. So, there are lots of different reasons. And you know, as I said in in in the memo, I think the main reasons why rates are going up is because number one, inflation is stubborn and it has stubbornly been above the Fed's 2% target uh for for uh you know, for the last uh well 5 years. And you know, while it has come down from 9 and a half, it went down to like 2.7, the target is two. They could never get it to two. So that's I think that's the main reason people want inflation protection if they're going to lend you money for a long time.
I but there's also concern you know simultaneously uh you know the US came out with a number of 40 trillion for its national debt and there's concern about the impact the meaning of that I would say profligacy. Why are we spending $2 trillion a year more than we're taking in in taxes? Why are we running a deficit that approaches $2 trillion? You know, if you had a brother-in-law who every year uh or every month spent more than his salary and put it on the credit card, you might look askance. Well, that so that may be going on here. And then the third factor is that there's a very strong demand for capital at this time. And in addition to the US financing the growth of the economy, which always takes place, it has to finance a deficit approaching 2 trillion. And that's at the same time that AI is drawing, you know, maybe hundreds of billions of dollars uh from investors in the debt market and competing with the Treasury to raise money. So I think, you know, I think those are my candidates for the reasons. Other people may have different opinions and and by the way, there's no you can't uh do an uh do an investigation to figure out which it is.
Just looking at the deficit as an example which has been a problem for decades now. The US debt as long as I have been a conscious human being has been an issue. Um it seems that something has changed uh this summer really at least in the bond markets. there has been a a a change in the tone of bond investors who seem to be uh a lot more worried about the US deficit today than they were before despite the fact that it has not been in great shape for a long time. I assume it might be because we're getting more and more indication that our leadership doesn't care about this at all and you talk about this in your in your memo that the US has this quote golden credit card and there's basically no talk of balancing the budget anymore. uh how big of an issue is this and what do you think is changing or what do you think has changed in the minds of bond investors not just in the US but I guess around the world too.
Sure. Well, Ed, for historical reference, I think the last time we had a budget surplus was when Clinton left office. So that was 2000. So 26 years of deficits. But one thing that has changed is the size of the deficits as a percentage of GDP. And you know um we ran a $2 trillion deficit I think around 2021 to uh provide uh COVID relief. Then people kind of got used to that level and they've continued it. And you know, it's one thing to give uh to run a big deficit when the when you're in a recession and the economy isn't creating enough jobs. There's another thing to run a deficit when you have something like the pandemic and uh you know the world economy is frozen and you want to you want to jumpstart it back into into action. But running a $2 trillion deficit at a time of prosperity.
when unemployment is quite low uh near near a record you know when there is no emergency to counter that's something very different so when you ask what's changed I think one thing that changed is it does seem that nobody cares about the deficit nobody ever talks about a balanced budget anymore uh which used to be a topic of conversation uh and so forth um and and I I do think that's a change I describe it as profligacy and uh you know I go back to the analogy of your brother-in-law. And you know, if your brother-in-law was given a golden credit card, we know he'd buy 10 Ferraris. But you know, if you're a hardworking guy and you live within your means and you don't have a big balance continuously on your credit card, you may not think that's so great. And that may be how other countries are are feeling about us.
I guess part of the problem here is it's not clear. It's not immediately clear to everyday Americans and doesn't seem to be immediately clear to our leadership what the consequences of running such large fiscal deficits actually is because uh so far things have been fineish. We don't really know when this thing uh implodes. Um I I guess what I would ask you is what could those consequences be? What would it look like? Is it possible maybe that the yields would be the thing that whips our leadership into shape in terms of being more fiscally responsible?
Yes. Well, first of all, nobody knows because there's no history on what it what it means for a uh for a power like us to run such a big deficit. But they've been running big deficits in Japan for a long time. I I mean big debts in Japan uh without uh major consequences in the financial markets. I said in the memo that that acute results like a failed auction or something like that are unlikely and so I think your scenario of continuous rising rates is probably the more likely one and people just say you know uh us we're not happy with the way you're running your business and so if we're going to buy your debts especially your long debts and be exposed to uh inflation and debasement of the currency that is declining purchasing power and declining uh value versus other currencies. Um we we we need risk compensation to do it and that makes perfect sense.
By the way, one thing I didn't mention but I I think it's very important to mention to put this all in perspective what we're talking about Ed is people talk about how they're thinking about today's high interest rates. It's very important to to that everybody recognize that today's interest rates are not high. you know, a a 5.3 or 4% uh 30-year bond is very low relative to history. And um and it's it's only high relative to recent history. And I argue strenuously that the recent history of interest rates is is the aberration. And you know the Fed funds rate which is the benchmark for short-term rates and the and it's the main uh lever that is thrown on rates. The Fed can actually unlike the Treasury with long rates, the Fed cannot the Fed can actually change short-term rates uh by changing the Fed funds rate and it does it all the time. That Fed funds rate was zero most of the time from the beginning of '09 to the end of 21. Yeah, that's the operation. Today's uh interest rates, you know, I've been around this thing since the 60s and today's interest rates look low to me, not high.
Might that signal then that we might have a lot more room to run here with yields? I mean, if this is the aberration, if this is the anomaly, and yet when we look at the fundamentals that would result in higher yields, i.e. persistent inflation that does not seem to be coming down anytime soon, spiraling uh fiscal deficits that is just stacking up and seemingly becoming worse and worse. Might that not mean that we're going to see even higher yields? If this is kind of a low relative to the rest of history, uh would you expect that it would continue to go up?
Well, uh, you know, the great problem in in the investing and financial world, and I'm going to get a little wonky, uh, for a minute here, and I hope that's okay. We we have a we have a qualitative description of what's going on, and then we have an interest rate, and there's no way to really tell whether the interest rate is appropriate for what's going on in the environment. So today we have the environment I described to you at the outset and then we have let's say a uh Fed funds rate of uh 3 and 3/4 and a long bond yield of 5.3 or so. Put it on the balance scale. Are those are those interest rates right for this environment? The answer is can't tell.
So you know we we usually don't talk about what interest rates should be. We talk about whether they'll probably go up or down. um we still can't tell but uh you know uh I think the most important thing is that people have been counting on declining interest rates for a long time and people look at declining interest rates as a real booster for the markets and and I think the most important thing and I think the thing we can say with more confidence than almost anything else but I don't believe in in confidence in opinions is that interest rates probably will not be going down much if at all uh in the coming year or two let's say.
yes which spells implications for equity investors I think there is an open question as to should people be selling if I mean if we know that uh that higher interest rates generally is not a good thing for stocks that seems to be a question you wrote about this in your memo you say no don't sell uh what is your view on this question
well that was that was really and not in reference to the high rates that was referenced to the uh debt and deficit problem of the United States. Right? So I think that as we as you and I said the most likely implication a possible implication of the of what's going on in the with the debt and deficit is uh demand for higher interest rates because of US fiscal behavior and maybe the right response for that is to to reduce your holdings not of stocks because this isn't a stock market problem not of uh investments in US companies this is not a company problem you're holding dollar denominated assets. You know, that makes some sense. If the dollar is going to deteriorate because the the government wants to debase the currency, maybe you want to hold less dollar denominated assets. The problem with that, as I laid out in the memo, is that there are very good reasons to be in dollar denominated assets. We are still uh I think the best functioning developed world economy. And so if you trade out of US assets into into other countries, companies or something like that, you have to face the possibility um that your your fundamental company level possibilities get worse. So it's it's not an easy it's not an easy decision given that the US continues to be the I think the best functioning developed world economy. Uh if you were going to do any I wouldn't do very much.
Yeah. Part of the question here seems to be when will our luck run out? Um, and this is I mean you point out uh Warren Buffett has made this point like we don't know if this is going to the reckoning is going to come in two years or if it's going to come in 20 years. Um I'm not sure if there's any way to know that but that seems to be a pretty significant point for investors to grapple with. Do you land anywhere on that spectrum? Do you have any thoughts on how to even uh address that question?
No, there's nothing intelligent to be said about that question. And you know, usually in the inst especially in the investment world where in the investment world, we're not talking about uh fundamentals mostly, we're mostly talking about how people feel about fundamentals and u and in the investment world uh what what I say is we sometimes have an idea what's going to happen, but we absolutely never know when. And uh I wanted to say earlier in reference to, you know, you you you said that maybe it seemed this summer like something switched. Um you know, people seem worry about all of a sudden. There's a there's a great saying in the investment world that things take longer to happen than we thought they would, but then they happen faster than we thought they could. And that's very true. So you know some people like me have been complaining about US fiscal behavior for years and years. Why did why do why are people exercised about it now? And again it has to do with human psychology. You know cognitive dissonance says we can uh reject information which is at odds with our basic understanding for a long time. Maybe at some point in time a critical mass is reached where you can't resist, you know, your your uh your lying eyes anymore and you say, 'Well, I guess that's I guess that's the way it is. Maybe that was reached.' And you know, a lot of people said to me this summer, 'My god, 40 trillion, that's a lot of money for the national debt.' Nobody ever said to me, 'Oh my god, 39 trillion is a lot.' Or 37 trillion is a lot. Now, maybe it's the roundness of the number 40 or the the fact that we that you change that first digit. I I do think that I've had I've had more questions about the national debt since it turned 40 than I did when it was 39.
It seems as good a reason as any to care about it.
