When interest rates take a turn

As unbelievable as it sounds, that day and at these rates, you would probably have turned down my offer. Most of the time in the markets the pullback is 20/20, but the forecast is legally blind.

September 30, 1981 turned out to be the exact day that U.S. long-term interest rates peaked, ushering in a decades-long bond bull market.

We know that now, precisely 40 years later. All everyone knew then was that bond prices, which move in the opposite direction of yields, had just set a new high.

The next day, Alaska Housing Finance Corp. published what looked like a proud “gravestone” ad in the Wall Street Journal commemorating a successful bid for these mortgage bonds.

In fact, the deal was broken, with “only about half sold” at the end of the day, our reporter Tom Herman noted on October 1, 1981. “Bond sellers say they have more and more hard to persuade investors to buy long term. term bonds even though many debt issues are now offering record yields.

A senior Wall Street executive added: “It’s been a terrible week, and it’s only Wednesday.”

The prices of some government bonds had fallen 17% in the previous three months, including a 6% drop the week before in September.

For years, “bonds kept going down,” recalls Dan Fuss, then 48-year-old portfolio manager and now vice president of investment firm Loomis Sayles & Co.

Between September 1977 and September 1981, the yield on long-term corporate bonds in circulation fell from 7.92% to 15.49%.

“Younger people might say today, ‘It’s impossible, bond markets don’t move like this, don’t collapse like this.’ Yes they can! ”Said Mr Fuss.

Wall Street companies, then almost all organized in partnerships, were reluctant to risk their capital to support a faltering market. Sellers, often faced with huge discounts on their bonds, were loath to lock in a loss by selling. Buyers, convinced rates would continue to rise, locked their portfolios.

“The liquidity was terrible,” recalls Bill Gross, co-founder of the giant investment firm Pimco, now a private investor. Some of his clients, while they had done well at Pimco, had lost up to 50% elsewhere in their bond portfolios.

“I didn’t know how long they would stay with us if they continued to lose money like this,” Mr. Gross recalls. “You would come home at night and just wonder why the hell you would bother to come home in the morning. “

Mr. Gross was bullish nonetheless, as was Mr. Fuss, given the low price of bonds. But, with short-term money market funds earning 17% or more, the vast majority of investors had no appetite for long-term bonds. “The [credit] markets could become comatose, ”warned EF Hutton & Co. chairman George Ball in the Journal for September 28, 1981.

In exactly 40 years, we have reached almost exactly 180 degrees.

In the last week of September 1981, hardly anyone thought that interest rates would drop significantly. Until a few days ago, in September 2021, hardly anyone thought that interest rates could rise significantly.

On September 30, 1981, to get investors to buy $ 1.75 billion in 20-year Treasury bonds, the US government had to offer them at a yield of 15.78%, or more than 2 percentage points. more than a similar show had sold in a two auction. months earlier.

Even today, no one has a clear explanation of why bonds suddenly looked more attractive on October 1, 1981 than they did the day before.

Over the next six trading days, long-term yields fell by more than a percentage point. On Thanksgiving, they fell below 13%, one of the steepest drops in history. As of September 30, 1982, the yield on the 20-year Treasury had fallen to 11.65%. At the same date in 1986, it was 7.55%, more than 50% below its peak five years earlier.

The inescapable lesson from September 30, 1981 is that markets can keep moving in the same direction longer than anyone can imagine, then shoot explosively in the opposite direction when no one expects it, pushed by forces that no one can ever fully understand.

On a long-term bond yield chart today, September 30, 1981 looks like one of the most egregious turning points in financial history.

That day, however, was just another dark data point in a miserable and seemingly endless job. Because we can see the past as clearly as the day, it’s too easy to forget that the future is always shrouded in fog.

“Things can’t go on forever at these rates,” says Gross. “Interest rates can’t stay that low [net of inflation] because savers, whether Mom and Pop in Des Moines or large pension funds, can not earn anything on their investment. He adds: “For the economy to survive, at some point, interest rates must regain some semblance of appeal to savers. Otherwise, the savings function will be destroyed.

No one knows when that moment will come, but it will come.

Write to Jason Zweig at [email protected]