Monday, March 25, 2013

Chasing Yield

Quick meta note. SimCity is now only taking up about half of my free time, and I foresee the usage rate dropping down to around a quarter very soon. So I do plan on churning out more articles. But this one's gotta be short.

The Wall Street Journal came out with an article that highlights investors' growing appetite with rental properties. Institutional funds have been pouring money into entire neighborhoods in order to collect rent. As the article notes, this reflects the insatiable appetite for yield that has driven capital into alternative investments since interest rates are so low.

If you're creditworthy, there has never been a better time to buy real estate. Interest rates are the cheapest they've ever been and that means things like 3.5% APR on 30 year fixed mortgages. That is absolutely incredible, especially when you consider the inflationary pressures later on down the line.

In short, the government is begging you to do something with the low interest rate environment they've provided for the past 4 years. I bought a foreclosed condo 2 years ago at a 4% APR 15 year fixed mortgage (which I thought was an absolute steal at the time).

This, I think, reflects the fundamental problem with the Federal government's current monetary policy. Everybody wants to kickstart economic growth by consumer spending, but the people with the money would rather chase yield.


  1. I don't understand how thats a problem. The government wants you to stop hoarding currency and invest. Chasing yield is exactly what the policy is supposed to promote.

    Also, I'm not sure I understand what "ifnlationary pressures later on down the line" is supposed to mean.

    1. To your first point, this isn't what the government wants us to do. I already invest my money in equity funds and alternative fixed income. The Federal Reserve and the Federal Government have made it quite clear that they want businesses to spend their money hiring people and expanding their operations, but they've also made it harder to do so.

      About 2/3 of the cash and near-cash assets that corporations have on their balance sheet is located overseas. Bringing it home means paying a 35% tax on it, so they keep it abroad. Meanwhile, they take on ultra-cheap loans to distribute cash back to their investors.

      The Federal government wants to jump start the economy again. Through construction and real estate? That means we need cheap mortgages. Well, interest rates are ultra low. But underwriting regulations have increased and it slows down the rate at which consumers can acquire mortgages.

      What you've seen instead is the investor class chasing yield by buying up real estate. The result? Skyrocketing rents and increased pressure on the average and median household budget.

      People with wealth have made out like bandits since 2009. The rest of America hasn't been nearly as fortunate. And a big reason is because the government can't get its act together. These low interest rates are doing nothing but inflating asset values and blowing bubbles abroad.

      To your second point, the inflationary pressures later on down the line means that, at some point, the Fed will have to end its bond purchases and raise interest rates. It then needs to wind down its balance sheet by selling the MBS and Treasurys it's acquired.

      All that is going to have consequences on prices. The New York Fed just said today that the Fed would try and wind down its bond purchases if the economy and labor market improves. Why exactly do you think they would do something like that?

  2. I don't understand why you think rising asset prices are bad. All interest rates matter for the economy, and all interest rates effect other interest rates. When rising demand pushes the price of an asset up it's interest rate falls and, in effect, it lowers the interest rate of other assets. This expands the economy when below the natural level of output.

    1. There are only two rates that matter. The yield on the 1 year US Treasury Bill and the yield on the 10 year US Treasury Note. All other rates are derived from those two rates.

      And no, I don't think the current monetary policy is doing a good job of expanding the economy.

  3. Then how come central purchases of other assets effects those rates?

  4. The bond market is just a derivative of the market as a whole. Higher demand for private assets decreases the demand for government bonds, walras' law.