Central Bank Stupidity Just Opened Up The Trade of A Lifetime

You have to hand it to The Committee to Destroy the World – the central banks that are decimating the vitality of the global economy and the ability of financial markets to function.  They may not have a clue about how to manage monetary policy, but they sure know how to screw it up.

But there is good news in their incompetence.

Right now, they are creating one of the great trading opportunities in history to profit from central bank stupidity and the willingness of the sheep in the investment world to be led to slaughter.  This trade is potentially one of the biggest shorts I’ve ever seen.

To borrow a phrase from the Republican presumptive nominee, “It’s going to be yuuuuuge.”

Negative Interest Rates Don’t Stimulate Growth – They Destroy Capitalism

Last year, Bill Gross received a lot of attention when he told investors that shorting German bunds was the trade of a lifetime.  Unfortunately, he failed to execute the trade properly and failed to capitalize.  This was when the yield on 10-year German bunds hit 0.078 basis points.  Shortly thereafter, rates backed up to .922 basis points and the pigs that chased the yields down to then record lows got slaughtered.

Remember, when yields hit very low levels, it doesn’t take a very big reversal to produce very large losses if you own bonds – or very large profits if you sell them short.  And that is what I am recommending that you do.  If central banks want to destroy the world, you might as well go along for the ride and make some money in the process.

German bunds are now trading at even lower yields than they were in 2015 – the 10-year bund yield hit one basis point last week.  The European Central Bank already bought back $1 trillion of sovereign debt.  But that didn’t accomplish much so  it started an insane scheme to buy back corporate bonds.  This pushed the average yield on European investment grade bonds below 1%.

Among the unintended consequences of this policy is that US companies are shifting their borrowing to European markets since rates are roughly 200 basis points lower there than in the United States (the yield on the Barclays Corporate Investment Grade Index is 3%).  This means that the ECB is now subsidizing borrowing by US companies.  Brilliant!

There are now more than $10 trillion – yes, that TRILLION with a “T” – of sovereign bonds trading at negative yields around the world (primarily in Europe and Japan). This means that anyone dumb enough to buy one of these certificates of confiscation has to pay for the privilege.

The evidence is in – capitalism is being destroyed by former tenured economics professors who use outmoded models rather than common sense to set policy.

Negative interest rates are a confiscation of capital by the government.  People should be screaming bloody murder about this, but instead the pompous television talking heads pontificate about how this idiotic policy will stimulate economic growth.  Let me get this straight:  A lender gives a borrower $100 and the borrower gives back $99 and that is supposed to grow the economy?  That is supposed to create an incentive for the lender to hire more employees? To build a new plant? To start research on a new product?  I don’t know what planet the people who develop these policies live on but it is not one that operates according to logic or the rules of economics.  Instead, it is the Planet of Crony Capitalism and the Corruption of Capitalism.

Negative interest rates will destroy the economic system if they persist too long or get too negative.  Low interest rates are bad enough.  They make it impossible for pension funds to earn a sufficient return on their capital to fund their liabilities, which keep rising every year by high single digit percentages regardless of what they are earning on their investments.  They make it impossible for insurance companies to operate profitably because they can’t issue new policies without losing money since they can’t earn a high enough return on their assets.  Insurance companies in Japan and Europe are forced to eat into their capital bases to make up the shortfalls.  And they make it harder for banks to make profitable loans since interest rates are so low.

We are already hearing of some European banks refusing to send their funds to the European Central Bank and instead storing cash in their vaults in order to avoid losing money on their deposits.  In Japan, sales of safes have skyrocketed as people hoard cash.

While the most paranoid among us sit and worry about the next terrorist attack, the government has snuck into its citizens’ bank accounts and effected a stealth attack on their savings while they weren’t looking.

But you don’t have to lie down and take it.

Here’s How You Can Profit from Central Banks’ Incompetence

Make no mistake about it – negative interest rates are the most destructive and intellectually indefensible policy in a long list of destructive and indefensible policies foisted on the world by central bankers since the financial crisis.  Ben Bernanke, king of the clueless, thought it would be good idea for investors to take more risk.  But he only understands how markets work in theory, not in the real world.  The result of his great idea is monetary disorder (remember, this is the same man who thinks we should drop money out of helicopters to stimulate the economy and doesn’t think that gold is money).

But rather than let Bernanke, Yellen, Kuroda, Draghi and the whole confederacy of dunces destroy us, we can fight back and make money from their fecklessness.

Investors should short every piece of long-dated European sovereign debt and investment grade debt they can find.

As always, my favorite way to play the short side is to buy puts, which considerably cut back on the risk. I recommend that you buy long-dated puts on Vanguard Total International Bond ETF (NASDAQ: BNDX), iShares International Treasury Bond ETF (Nasdaq: IGOV), or SPDR Barclays International Treasury Bonds ETF (NYSEArca: BWX). Of the three, IGOV is the smallest, only $750 mm in size. BWX and IGOV are both more heavily weighted towards Japan than I would like, but there are very few ways to gain short exposure to German bonds right now, and these are among the best options available.

Here are the individual weightings of all three ETFS (you can see the full details on etf.com, the source of these charts):


You can also short the euro through ProShares Short Euro (EUFX), which should do poorly when European bonds crash.



37 Responses to “Central Bank Stupidity Just Opened Up The Trade of A Lifetime”

  1. Michael, I am unclear on what you are saying will happen as far as rates. It appears you are saying to short European debt, which means you think that bonds will decrease in value. But that means you must think rates will increase. But a big part of your article is that you are saying how the central banks are lowering rates to even negative values. Sorry for my ignorance, I have always been confused about bonds and the interest rate vs bond values. Can you please explain what you think will happen to rates and how this will affect the European bonds. Thanks.

  2. Mike, I agree with your assessment in theory, however, I looked at all of these long dated puts and there is very little to no open interest on any of these ETFs, Even selling short is not showing very much profit potential in comparison to in the money premiums currently in addition to not being able to unload them at all. And, EUFX has no options at all. Is there something I am not looking at or missing? thanks, Vince

  3. It seems to me if global bond prices go down, central banks will simply prop them up by printing currency and buying them. Puts will go down in value. With all the central bank debt, governments cannot allow rates to go up.

  4. We have to look at the fact that nations are engaging in what has been called a race to the bottom regarding their currencies’ value to boost exports, as China has done for decades. To do that, they must drive down interest rates. The currencies of countries with low interest rates will be sold, driving diwn theur fale, and currencies of countries with relative high interest rates will be bought. China has not bought so much US treasurys because they like us. They sell their own currency and buy US dollars to buy US treasurys. Buying puts on bonds will be stepping in front of a train.

  5. Yes, it would be a mistake to buy shares of BNDX under the circumstances Michael describes. BNDX is a “long” fund and you would buy a long fund in the anticipation that it rises in value. The reason you cannot buy PUTs in your IRA may have to do with a permission from your broker, as there is no general restriction on that for IRAs – I do so often.

  6. I,also do not see this as the trade of a lifetime. Michael,you must know something that not many of us know.Firstly,you are so keen on shorting German bonds,but they are a tiny % of each vehicle you mention.I just do not see these central banks to stop printing money unless some kind of gold standard comes in to disgorge most of the debt,or that the banks will finally get the 5-7% inflation they are so eager for. Either way ,the world’s pretend fiat money should get hit HARD,so why aren’t gold and silver,and the mining co;s. not the real buy of a lifetime?This is my belief. Regards,marc

  7. Wouldn’ it be smarter to buy long dated out of the money puts on the Euro or just buy the contra euro etf. Some time ago you published a table listing derivative exposes of the big banks.The dollar amounts shown for Morgan Chase and Citi were exactly the same. This is unlikely. What are the correct amounts for these two banks?


  8. Price of money is only one of many factors that make an enterprise attractive. How about “will people buy what I sell?” or even “Do I have a good idea?”. There are no good ideas because cheap money makes companies stop investing and pile on debt to pay shareholders. Investment is at rock bottom levels. This won’t end well.

  9. Robert J. Storer

    This man is insane. First, if you want to short German Bunds use an ETF that actually does that. BUND2S.MI is a Lyxor ETF that trades on the Milan exchange and the XETRA exchange, among others. It is a daily double short ETF of the 10 year German Bund. Société Générale is the principal market-maker for Lyxor UCITS ETFs. If you want to short the German Bund, buy this ETF. It is a pure play. Be forewarned. The ECU has more fire power than you will ever have so shorting the Bund now means you better have enough stomach if the 10 year Bund continues to go further into negative territory.

    The reason he is a mad man is that (1) he wants you to short a basket of international bonds, (2) the Bollinger Band reading for this inverse ETF is -0.57% for a 63 day period, which means the price has been falling and is expected to continue to fall and (3) the price of the ETF is close to 10% below its simple 200 day moving average. Yeah, Go ahead and catch this falling knife. At some point though, when the pain gets too great and rates approach -.025% for the 10 year Bund, this trade would work. Buy the ETF near – 0.025%. But have plenty of stomach.

  10. SteveO – If you borrow money, then you have to pay it back (even if you have to only pay back $99 on the $100). But if you spend the borrowed money on R&D or capacity expansion, then you no longer have the $ in hand to pay back the loan. So that means your betting that your R&D or capacity expansion will generate the revenue that generates the profits that would be used to pay back the loan. But CFOs are petrified that we’re headed for a 1929-era like depression (many industries are already in a recession) due to population dynamics (See Harry Dent research). So if CFOs see that their existing core business is declining and/or under threat of worsening econ conditions, then they know they don’t have “in the money” resources to whether the debt load if the new R&D or capacity expansion fails. Note that S&P 500 companyies, as an aggregate, have had three quarters of declining revenue already! The CFOs are wiling to take on debt to buy back shares because that is essentially exchanging one liability for another (“liability” to pay a dividend vs. debt liability) and they know that if push comes to shove, they can suspend the dividend and divert that cash flow to retiring the debt. As a side benefit, buying back shares props up their per-share stats which helps keep the stock price up and improves their personal annual stock-based compensation. If the central bankers actually have it right and the money printing bridges the present with the 10 years from now (when the millenials will be purchasing almost as strongly as we baby boomers did in the 70s and 80s) without a major depression, then these companies will be sitting pretty with relatively low amounts of outstanding equity, and handsome cash flows to pay off the $99 on the $100 bonds. The mathematical answer to the stock repurchase is simply what is the lowest cost mix of debt/equity to finance the operations of the company. With debt so cheap, its cheaper to fund your company with relatively higher levels of debt than equity.

  11. to: the Storer of madness

    Did you notice that the 2 large baskets offered for contemplation on madman’s courtesy letter are euro bonds, not likely to do well as they are lychpinned by the bund? You call someone with proven 20+ years of success a madman bec you learned how to use bollinger band in an incoherent sentence; a sentence more akin to a prepositional phrase. Meaning an incomplete sentence in the context of actually making any future cents. Michael is suggesting motivational ideas for growing his audiences comfort and familiarity with the idea of Defined Risk inherent in his put examples. You are out on your dailydouble levered limb. Why dont you offer a newsletter with your wonderfully sane insights? Bollinger band? try eu breakup vote on tuesday

  12. Don’t under estimate the will and capacity of CBs to keep the game going. Betting against them has been a bad idea for a long time. Furthermore, I’m afraid that when the day comes when you’re proven right, there is going to be nobody on the other of the trade…

  13. I enjoy reading and appreciate Michael’s time and sharing his expertise. Nobody can predict the future event exactly but can have educated guess. I believe it is good to be civilized, and offer your opinion and questions in respectful manner. I am afraid if audience respond not so respectful manner such as using term “insane”, it may discourage him to continue sharing his opinion. There is no need for that. We can agree to disagree. Thank you for your thoughtful consideration when you write.

  14. As a Canadian observer, I have been shocked by the willingness of the media, Congress and both sides of the aisle to accept incredibly spurious reports on the performance of the US economy since the recession.Pervasive untruths seem to be the weapon of choice to maintain power.

  15. I think that what has been presented here is very logical!!! But what I think is very obvious is that Janet Yellen is rewriting history before us right now!!!!!!!! Obama will be the worst president in the history of this country. The fed tried to position themselves with a few rate increases and the market failed 40%, and scared them into no further tightening. The Fed is over stuff with Democrats will not raise rates before an election!!! Especially only months away!!!!!!!!!!!!!!!! Stand ready after November election, or shortly after the new press. swearing in!!!! Nobody to account to and the next guy get all the mess!!!!!!!!!!!!!!!

  16. After trying to raise rates, the fed was frightened by the 40% sell off!!! The fed is not going to raise any rates until after the November presidential elections!!!!!!!!!!!!!!!!! Probably after the swearing in in January, and the next guy get the mess!!!!!!!! Hopefully Trump!!!!!!!!!!!!!!!

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