TBT

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I wrote,

For now, I am refraining from speculating on ETFs that profit from increases in interest rates. In other words, I am not putting my money where my mouth is (except that I have invested a lot in inflation-indexed bonds, or TIPs).

If you want to put your money where my mouth is, then you want to buy shares in TBT. But doing so will lose if goods prices revert to their declining trend. As I put it,

The big question going forward is this:

  • Will inflation will go back to “normal,” meaning that the prices of services like higher education and health care go up, but goods prices trend downward?
  • Or are we in a new environment, with rising prices for goods, in which case sooner or later interest rates have to rise, also?

20 thoughts on “TBT”

  1. Investors always have to choose from the options available to them, not the ones they wish were available to them. Rates on U.S. government bonds are low compared to past options but high compared to current risk adjusted options in almost any other country’s government bonds. Corporate bonds are also historically low.

    Bond yields are a product of supply and demand like any other price. In the past our biggest companies were big borrowers. Today they tend to be cash rich lenders.

    It’s important to remember that negative real interest rates are something very old, not something very new. In the earliest days of banking wealthy people paid goldsmiths to store their wealth because it was the best security available. The ability to safely store and return your wealth is a valuable service sometimes worth paying for. Negative 1% can look like a great rate compared to a year of negative 30% in some alternative investment.

    I am very conscious of the fact I lack the ability to predict future interest rates and so I try to diversify as much as possible with a mix of TIPS, stock index funds, and real estate.

  2. It seems like housing is the split case between your two examples of services and goods. Most of the value of housing isn’t in the physical product, but the amenities of the neighborhood. You could call those amenities “services”, even if you don’t literally pay your neighbors to have well behaved bourgeois norms. Yet you can physically own a house and bring it into the future unlike a true service. Buying a house in say a good school district really is like buying future education expenditures at current prices, at least for K-12.

    And for a variety of reasons of course we aren’t going to Moore’s law our way to housing amenities being cheaper (I say amenities rather then construction costs, because even if you say removed zoning if the lower prices brought in bad neighbors it would destroy the value of the housing investment).

    Right now the OER is at 2.4%, but rent and home prices are going up say 10% a year. When the OER catches up it will keep inflation high even if say used cars get cheaper (assuming the OER is allowed to print a higher number more in line with reality).

    I’d say the housing bidding wars are people trying to find a positive return on their savings, leveraged x5 even.

    • Yes, housing is different from other investments in a number of ways.

      Those viewing the Fed’s management of interest rates as somehow causing those rates to not be “real” market interest rates should remember that the home mortgage deduction represents a huge government intervention in market prices for housing that somehow rarely causes housing prices to not be regarded as “real” market housing prices.

      • First, people do complain about the mortgage interest deduction distorting markets all the time.

        Second, use of the home mortgage interest deduction has decreased dramatically due to the SALT cap combined with low interest rates and a higher standard deduction from the tax legislation. Most homeowners don’t even do deductions anymore (I think its fallen to only 13.7% of taxpayers bothering to itemize at all), and even many that do are only getting a fraction of the theoretical value because they are barely over the standard deduction. Most homes in my area for instance probably don’t deduct mortgage interest, but they are up over 10% in the last year regardless.

    • We could use Moore’s laws to make some “housing amenities” nearly universal. China is in the process of doing so.

    • You wrote.. “assuming the OER is allowed to print a higher number more in line with reality”.

      The June 2021 shelter inflation value is 2.6%. Pre-pandemic in January 2020 it was 3.3%. My understanding is that owners equivalent rent is just rent. The BLS describes it as “the cost of shelter is the implicit rent that owner occupants would have to pay if they were renting their homes”. This seems trivial to survey and so it seems very close to reality already.

      • Yes, it’s a survey. Though one wonders why they bother doing a survey, given the problems with surveys and the fact that the survey data has a big time lag with emerging trends. Data on actual rents charged to actual people are easily available. Does the Fed not have Zillow? Even if you don’t want to use actual rents for equivalent homes, you could just look at actual prices of recently sold homes and calculate the cost of carry (mortgage at prevailing rates, taxes, etc).

        My fundamental problem with TIPS is that its the fox guarding the henhouse. The entity that determines what the CPI is also has a financial and political interest in the CPI staying low.

  3. Beware buying products like TBT, though. The fees/costs of such funds are steep- these are not long term betting devices- in other words, unless your bet is correct in short order, you won’t make a profit, and will have to position again unless you have changed your mind.

    • Yes—Google Jason Zweig’s articles in WSJ to understand risks of these funds and why they are (at best) suitable only for short-term trading.

  5. A question – will the government be able to hide the inflation rates?
    If they can do something underhanded, it’s a good thing to bet on.

  6. Why buy a bond fund at all when the government has, signaled it will support a practical floor on stock prices?

    I mean, I’ve got some just to be safe, but as a practical matter, bonds no longer seem to serve the purpose they once did. For an individual investor, you might as well be parking your money in a corporate bond funds and lower risk stocks that the Fed would never let fail.

    • It’s uncertain where the ‘floor’ on stock prices truly is. During the pandemic, many stocks soared not because of direct government efforts to prop them up but indirectly, via lower discounting, a surge in sales for companies like Amazon and Apple, etc, less competition from small businesses, etc.

      For all we know, the government will allow the S&P to fall back to, say, 2,800 in the next recession.

      Bonds used to provide a positive return and also hedge against a downturn in the equity market. Now, bonds mostly just fulfill the hedge function, but there is also significant interest rate risk that didn’t exist a year ago. A 10 year treasury yields a little over 1% and it faces 7% of downside for every 1% increase in 10 year rates. Note that an inflationary scenario might send both bonds and stocks down at the same time. At the current time, I’d use cash rather than bonds in my portfolio. If rates rise, the cash component simply sees its return rise, without the capital loss. If rates fall, well, there just isn’t that much room for rates to fall.

  7. The downside risk is super low here. At worse it’ll drop 20%, but the upside is a reasonable chance for 20x return. I’ve bought a few thousand shares splitting between TBT and TMV

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