Animal Spirits Podcast - Talk Your Book: Betting on Duration

Starting point is 00:00:00 Today's Animal Spirits Talk Your Book is brought to you by U.S. Benchmark Series by FM Investments. You can go to U.S. Treasuryetf.com to learn more about their ETFs that invest directly into treasury bills and treasury bonds. That's U.S. Treasuryetf.com. Welcome to Animal Spirits, a show about markets, life, and investing. Join Michael Batnik and Ben Carlson as they talk about what they're reading, writing, and watching. All opinions expressed by Michael and Ben are solely their own opinion and do not reflect the opinion of Ridholt's wealth management. This podcast is for informational purposes only and should not be relied upon for any investment decisions. Clients of Ridholt's wealth management may

Starting point is 00:00:39 maintain positions in the securities discussed in this podcast. Welcome to Animal Spirits with Michael and Ben. Michael, one of our sentiment gauges here that's totally internal, we're holding on to it, is our inbox. And in the, like the petty 20, late 20, 20, 20, early 20, 21 days, It was, you know, these two or three times leveraged tech ETFs and trading individual stocks and meme stocks and all this stuff. And now the majority of our questions are about boring old bonds and how do I lock and yield and how do I buy T bills, right? Credit our audience, we didn't get a lot of memes. Like, there wasn't a ton of people being like, why aren't you guys investing in AMC? That's true. There was a few, but not many.

Starting point is 00:01:26 People were skeptical. Smart audience. It was more like should not, why should I not just put all my money into the NASDAQ and that sort of thing. But the bond yield stuff is interesting because I don't think people have had to think about bonds before. Like if you figure the 30 years from like 1980 on, interest rates were falling, it didn't really matter what you invested in. If you invested in something in the fixed income market, you did pretty well because you had a high starting yield and yields were falling. And then when they hit generational lows in 2020, everyone kind of said, well, what am I going to do in bonds anyway? So I'm just going to go mostly to stocks or I'm going to sit in cash or something. So people haven't really had to be very

Starting point is 00:01:59 thoughtful. And now that rates have moved so far, so fast, and then the yield curve has been changing from this inverted thing where the T-bill yields were way higher than bond yields. And now bond yields are catching up. People are being forced into thinking about bonds in a more reasonable manner. And for once, it's about yield as well, not just like, what am I going to do? Well, we spent a lot of time on this show with Alex Morris talking about the risks to the long end, the risk to the short end. But that's the wrong way to think about it. The right way to think about it is There's a lot of ways to win, right? Like, there's a lot of ways that you can successfully implement an approach to fixed income.

Starting point is 00:02:38 And it could be a happy medium. It could be, you know, whatever it is. There's just a lot of opportunity for the first time in, really, in our career, which is a wonderful thing. Well, and the thing is about that is you have to kind of define what you're looking for, because some people could say, I'm putting a trade on, and I'm betting that rates are going to stay higher for longer. inflation is going to control, and I'm sticking away from duration. Or you could say I'm going into duration because I think a recession is coming, and rates are going to fall, and other people are thinking, no, no, no, I just want something safety. I don't want any volatility, so I'm going to go

Starting point is 00:03:10 short. Or you could say, I want to lock in yields for longer. So there's, like, different avenues you could approach depending on how you think about the world in this way, which is interesting. All right. I paused because I thought about a joke who was really bad, so I'm going to spare you. With no further ado, here is Alex Morves from FM Investments. It's good. Fixed income humor doesn't work. We're joined today by Alex Morris. Alex is the chief investment officer of FM Investments. We're going to start with the long end of the curve today.

Starting point is 00:03:39 So we're talking all about fixed income and the benchmark series suite of direct maturities. What do we call it? On the run single maturities. On the run single maturities. Okay. Okay. All right.

Starting point is 00:03:50 So the yield curve had been inverted for a long time. I think this is the second longest streak. since outside of 2007 of interest rate inversion. And the curve is uninverting, and it's happening not because the Fed is cutting rates, obviously that's not happening, but because the long end of the curve has been screaming higher for the past couple of months.

Starting point is 00:04:16 There's been like a lot of debate, and I'm sure it's not just one thing. It's probably not even just two things. But in your opinion, why do you think it took so long for the longer of the curve to respond to stronger economic activity? And why do you think it happens so quickly? It's a really good question.

Starting point is 00:04:34 I think you're right. It has a lot of myriad answers. I think the simplest one is that statement, if we're going to talk about the long end of the curve, it's something that people hadn't really said for two, three, maybe 10, 12 years, right? There was just no interest. You look at the yield curve, it was a flat line and no one much really worried or cared. There's one moment we could talk about. We probably should spend a little time talking about, which is the Bank of Japan.

Starting point is 00:04:56 And I get there, not the Treasury of the Fed, but they probably had more impact on the rate and the material interest or lack thereof in the 10-year, U.S. 10-year, that anyone else has had in a long time, right? Governor Yashita comes out a few months ago and says, basically, we're going to stop propping up the Japanese bank tenure. When they do, the 10-year U.S. becomes unpeg and its yield sort of starts to fall in line with the rest of the yield group, because that for a long while had been this sort of second inversion point, like a divot if you looked at it.

Starting point is 00:05:26 On top of that, once that happened, I think folks realize that recession by virtue of the Fed cutting the front end, because that's usually when you see an inverted yield curve, you think recession, but that it's not because the yield curve is inverted. It's because the Fed usually reduces rates suddenly, and that creates the actual recession. That didn't happen. And it happened long enough now that folks had an opportunity to trade out of those positions and allow the rest of the curve to really come in line with what I think is a more reasonable long-term expectation.

Starting point is 00:05:54 I don't think it was fair to say that the U.S. long-term growth expectations were 100 basis points. It is a more 400 basis points, 500 basis points operation, 30 years out for now. And you should kind of want that kind of return, right? Can we talk to the nomenclature here? Is it disinverting, uninverting, steepening? What do you prefer? I like steepening, but it's that that means a lot of things for a lot of people. So I guess normalizing, maybe?

Starting point is 00:06:18 Is that fair? So I guess a lot of people, investors, maybe the bond market itself, assumed, yeah, that this, this uninversion steepening would happen because the Fed would be forced to cut rates if and when the economy sold or under recession, and it's the opposite. Is there any precedent for this happening, especially this quickly where, I mean, I guess maybe the early 80s or something where the long end sort of did the uninverting here? If you look at the 80s, the long end did some of it, but rates just got so high in the short end, right? And the housing market went so wonky that it was kind of hard to justify that. I think this is truly a wrinkle. And this is where we

Starting point is 00:06:51 kind of remember when we're playing with economic or economy-wide global macro things, looking back at history is not often the best answer of what's going to happen this time. They tend to be events that we then write books about because they're exogenous. This is when something changed. Every time there's a crisis of some sort, the Fed, the Treasury and Congress get together and they redistribute their rights and then all of a sudden everything they did the last time doesn't matter because they have a different rule set. We've got to forget that we regularly forget that. I think this time, though, the big difference, right? because I don't think there's been a time where this has happened as quickly, certainly not

Starting point is 00:07:24 on a relative basis, going 5X in the last 12 months on a yield basis, is that folks didn't believe the Fed would actually stick to it. I think that bet you saw on the long end of the curve was a belief that the Fed would, you know, chicken out and that they would just drop rates quickly to go back to the way things were. And they absolutely did not. And they've made very clear they don't intend to give it up anytime soon either. You mentioned the bet on the long end of the curve. We've spoken about this, the chart floating around of the massacre in TLT, it's in a deeper drawdown than the S&P 500 was in the dot-com bubble.

Starting point is 00:07:57 That's the sort of carnage we're talking about here. And yet total assets in TLT kept rising, which is very inconsistent with investor behavior. Usually people run for the exits when they're feeling that level of acute pain. But how much of that rise in assets, I think it's probably impossible to untangle? How much of that rise in total AUM is from, like, short sellers getting involved there? Well, so if you looked at the stats as of, you know, yesterday, as it were, so the end of last week, you know, I'd have called mid to end of October, about 12% of the open interest was in short sellers. So there is a lot of, you know, creating to short.

Starting point is 00:08:40 That's actually not nothing, but not everything. I mean, not even close to everything. Yes, I'm not even close to everything. Now, let's not forget there's a triple X inverse. and a triple X long, TLT. Yeah, I tried. I tried to buy one of those things. They did not go well.

Starting point is 00:08:55 But credit to me, took a quick loss. Three to four percent, gone. But you know what you're doing. So you got to know, there's some folks who are going to buy that thing and hold onto it, not realizing what's about to happen to them. And I think that the short answer for why folks are interested is maybe folks do the right thing, right? All of a sudden, if there is interest from sellers, that's when you want to be buying, right?

Starting point is 00:09:15 If folks are getting fearful and getting out, you want to get a little greedy on it. The problem with TLT is it's a great trading vehicle, but it's kind of hard from a, you know, theory sample because it owns a bunch of stuff greater than 20 years, right, truly has a long end of the curve, of which the government only issues 20 years and 30 years every quarter. So there's not that much to go around. There's some zeros in there that help keep the duration really long, but you're not talking about things that have a duration that's north of 10, 15 years. That's like a 15x leverage impact, right?

Starting point is 00:09:44 If you look at that, you're buying into that idea. And if you were going to buy a 5% 30 year as a cash bond and hold onto it and just know that at the end of 30 years, you're going to get all your money back in 5% a year, that's a great idea. But buying as an ETF and now being in there with a bunch of other low coupon items, you're not going to get what you expect. Like most folks, I think are looking at that and at the 20 and the 30 yielding about 4-7 to 4-9 today, somewhere in that range, and thinking, oh, wow, I'm going to get that kind of yield. What they get is 3.5% or less because the embedded. coupon rates from those bonds is just so low. And so they don't get the experience they want. That's a good point because right now a lot of people are trying, they're saying like, okay, rates are higher. I want to lock them in. So maybe, yeah, maybe just sort of compare and contrast

Starting point is 00:10:28 that like buying an actual bond with buying one of these ETFs that has a constant maturity profile or duration or whatever it is. Yeah. So let's take the multi bond funds, which are, you've been around for a long time, right? And why we built the benchmark series, which is just one thing. And why it was important to be very different? So if you're buying something that's 10 to 20 years, 10 to 30 years, you're going to have to buy a lot of bonds. And there's no debt diversification doesn't earn you any credit diversification, right? It's the same issuer. It's the government. All the bonds are the same. The theory that if one bond crashes, the other ones won't, doesn't make any sense. If the government defaults on one debt, it's going to default on all of the debt in theory.

Starting point is 00:11:03 So you're not giving the diversification, you might hope. What you are getting is a difference in liquidity profile, right? The further away from all the run you go, the less liquid, so the greater the spread to buy or sell the effect. And you are picking up coupon differentiation. So if you have the same issuer at risk, you might as well just try to maximize your yield or optimize for the quitter. And that's why we built the benchmark series. We didn't inherently want to build and launch a single treasury ETFs who thought it'd be fun for the marketing.

Starting point is 00:11:28 We did it because the other tools weren't precise enough. And as we tried to buy a, say, three to seven year because we wanted an average of five, we found that some days we got seven, some days we got three, and we spent a lot of time fighting where that index was going. And it kind of makes sense. If you think about why those indices were built, they were built around accounting principles of the government and how the government issues debt. And with all due respects to all of us as taxpayers, none of us really go to the government

Starting point is 00:11:57 for our investing criteria, right? And how they want to do their accounting is their problem, but it shouldn't be a my investment thesis. So we built the benchmark to give you that liquidity because the on the run, they're just more liquid. They tend to always be more liquid. And then separately, if you had a point on the curve you wanted to access, you should get that point. So when rates go up, you're constantly reinvesting that accrued income into a higher

Starting point is 00:12:19 coupon, which is what you're more to be doing. And the rates go down, you're constantly reinvesting in longer duration, taking advantage of that price move. Again, which is the exact move you want to do. And that point moves on the curve up and down pretty riddle. If you start looking at, say, three to seven years or 10 to 30, that's a pretty wide swap. And if we go back to high school calculus, you know, there's a lot more action that happens and a lot of things you don't expect. And bond math is hard enough as it is, start putting that over multiple issuances. We're going to talk about bond math in a second, but let me ask you a dumb question. So if I want to buy the tenure today and lock in close to 5%, you could do that, right?

Starting point is 00:12:54 You could buy a 10-year treasury in various, various places. But if I'm buying the benchmark one, how does that work? So am I really locketing the 5%? In other words, like, is there interest rate risk to the downside? What if the tenure goes down to 3%. There is interest rate risk in general in that product. The good news is if rates go down to 3%, your principal value's gone up. And we've constantly reinvested in that. So you'll pick up that immediate price appreciation. You won't have to stick around for 10 years to actually recognize that total value. And if rates go, even if rates ticked a little higher now, because the coupon rate and the yield of it is so high, we're actually not going to lose very much. And your total return will

Starting point is 00:13:36 still be that positive. So on that long end up to the 10 year, you shouldn't be interested in doing the rule. And then at some point in the future, if you say, okay, I think rates are now going to be static forever and I really like what I've got, that's when you should lock in. And if you bought, say, U10 today and then in three years decided that's the rate you wanted to lock in, you would do so with a fairly sizable increase in value, some more principle for you to invest and lock in two. So just to be very clear on that point, so I'm not misunderstanding, buying something like U10, you're not locking in rates, right? You're really just getting exposure to that

Starting point is 00:14:11 part of the curve for better and for worse. Correct. Right. So his point is that, yeah, if rates go down, you'll get the price bump, but, yeah, the yield will change too. Yeah, so your yield will go down, but between five and three, right, with the duration on 10-year, which is somewhere around seven and a half, you're going to get a very, you're going to be really happy with the price appreciation you get.

Starting point is 00:14:32 And because of the ETF, you're going to get a capital gains tax-free, other than it being in U-10. And if you've been a U-10 holder for 365 days, you will have converted. that short-term capital gain in the underlying bond to a long-term capital gain for your portfolio, which is the trade you want to make. Good segue to the interest rate scenario analysis that your team sent to us here, and it shows the different parts of the curve from the two-year up to the 30-year, and what happens if we have different interest rate moves, right?

Starting point is 00:14:59 Interest rates rise, 50 basis, points are fall, if they rise 100, fall 100. And it looks now like we have a situation where if rates fall, bond prices are going to go up more than if rates rise and bond prices would fall, which I assume was probably the opposite in like 2020, right? So back in 2020, when yields were so low, you had the opposite situation where if rates rose, you were going to lose way more money than you would have made if rates would have fallen. Correct. So looking at this different scenarios, obviously we're not going to have a situation where rates rise 100 base points or fall 100 basis points for every bond, right? It's they move differently at different times. But like, what is like the sweet spot?

Starting point is 00:15:39 these days in terms of, like, more bang for your buck if rates fall. So looking at that, the heat map that we share right now, that's the seven year. And so the seven year is pretty well traded. The five and the ten are substantially better traded. They're just much more common for risk hedging across industry. So if you really like that, I'd probably split things between the five year and the seven year. So the five year or the ten year, so UFIV and UTN, which is where you'll, you really get that same affected duration as the seven-year, but in two very highly liquid items that are well-traded,

Starting point is 00:16:13 well-regard, and well-talked about. So you're going to be really tuned into what's going on there. Michael and I were talking about the convexity piece here, which is kind of like a CFA thing we learned. And we're curious because, correct me if I'm wrong, the basic idea here is that typically when interest rates fall, you're going to get a greater rise in price than the opposite, where if interest rates rise, then you'd see a small, is that, does it work like? that where you get a little bit of a bigger bump on the upside than the downside? That's exactly what's happening. And you're also earning that coupon rate, right? So you care also about how quickly you're paying and how much you're paid. And you're paid so much now sufficiently quickly

Starting point is 00:16:48 that your reinvestment of that earns you way more. And if rights fall, you've bought even more of that bomb, right? So you're doing the exact right thing by reinvesting in an asset that's about to become a lot more profitable for you. And even while you're doing that, you're reinvesting at a higher rate of return than you were initially. So you're in that spot where it makes sense to be. And when you think about timing trades, which we always talk about you shouldn't be a market time or you always fail at it. But this is one of those trades where you don't need to be day precise. It turns out that if you come in a little too soon on the S&P 500, it could be very painful. You come in a few months too early on some of these duration trades and it doesn't hurt as much. If you come in a month

Starting point is 00:17:29 or too early, we actually make more than if you timed it just write, given how much you're quickly assets and cash starts to move into these securities, where you get tighter spreads and you can sort of shop around for a deal at that point. If you look at the assets under management in some of your ETFs, T bill, which is the three-month one, has $2.5 billion, X bill, which is a six-month, has $500 million. But as you extend your duration, the assets drop dramatically. I wonder if this is probably the same story across other asset managers, just investors. preference for either ultra-short or short duration, given that they have the mindset of, well,

Starting point is 00:18:11 why would I ever bother with all the headache and volatility of the 10-year plus when I can get the same rate and have effectively zero volatility at the short end? Does that make sense to you? And do you think investors might be taking that too far? So it does make sense. And advisors and investors who've reached out tell us, you know, why would I not take what was a material yield in the short end, right, over just about anything else. And why would I take risk in the middle of the curb, particularly when the middle of the curve was still trading in the threes, right? It looked like if you believe that long term, 3% was probably too low for long-term expectations for the U.S. with a more normal rate policy, then it didn't make sense to jump in

Starting point is 00:18:56 you. Now I think we've seen that, particularly look at the tenure, every time the tenure touches above 5% for even a tick, it immediately gets bought up and goes back down. So we're starting to see kind of a natural ceiling for the market. But I should mention that that posture for investors staying either short or short has actually been the right trade. It has been. And they've also kind of made it the right trade, right? Assets leaving some of the other bits of the trade and coming to the short end has let bond prices decrease. And if you look at just the general selling pressure in the long end of the curve, there have been more sellers than buyers, right? Some of those sellers have been other governments and whatnot who moved way more than individual investors. But that's been

Starting point is 00:19:35 the case. And it's been a good trade. It was theoretically, mathematically, CFA-wise, the right trade to make. And then the market moved in such a way that it guaranteed it was the right trade to make. So you think there is some sort of line in the sand, or at least that's how investors are acting at like 5%, which is hilarious to me because investment people just love round numbers. Like, if you get 4.95%, you probably shouldn't bat an I versus 5, but there's something So you're seeing some activity there when it hits 5% like that's when people are stepping in. Yeah, every time that it's flirted with that, all of a sudden buyers come back, right? Otherwise, it shouldn't, you couldn't theory go higher.

Starting point is 00:20:11 And it just hasn't. We'll see what happens later this week when the Treasury does its reallocation because it's trying, right now the Treasury is about 25%. So one in four bonds is a bill. And it's trying to get down to one in five, which is kind of a tricky thing for it to do because it's got a lot of debt it needs to finance on the longer end of the curve, which is ever. so slightly cheaper because it's inverted now, but it's a good thing for it to do. The one thing that it gives up is flexibility. If every few years or every few months, it feels like now Congress is going to have a debt ceiling debate. The one thing you want the Treasury to do is be fluid, right? More on the short end. When it makes the commitment to the long end, it now

Starting point is 00:20:46 runs into some other issues. But it's actively trying to do that. And what it's about to do then is add more 10, 20, 30 year to the market. We'll see if that allows it to break through that sort of technical level. And I'm not a chartist or a technician. I don't generally don't follow that, but I do know enough of the market does and they move their assets like they do, then it tends to make itself right. So we're going to see what happens if supply goes way, way up. Can it break through five? And if it does, does it have a natural stopping point at the next fraction? And I don't know. There's no fundamental reason why it does other than long-term expectations will kind of need to hold it in check, right? If we look at some other banks, like, let's look at the lending rate out

Starting point is 00:21:27 in Argentina. It's 118 percent, which is just kind of fun to think about, like a short-term... What does that mean? Well, it means that they have to offer a very high level of return to get folks to overcome this very material level of inflation. So it's very different story than us, but it goes to show you there's a lot happening in the world. The question would be, though, what would happen if we get through five? And in theory, you're right. The answer is, 5-1-5-2, what does it matter? But practically speaking, certain buyers just, they become more attracted at a certain rate. And they have long-term liabilities that need to manage.

Starting point is 00:22:02 So a lot of the folks who are going to buy the long-in, they're going to buy that bond, they're going to stick it away, and they're never going to see it again until it's maturity. To me, the risk is, I don't know if it's asymmetric. It's too strong of a word, but I think that's how I feel. So the 10-year, according to this interest rate scenario analysis that you made a couple of, I guess it's probably a week or so ago, but directionally, it's still right, even if it's not precise. If the 10-year goes up another 100 basis points, which that'll be a lot. That'll be a big move from this point.

Starting point is 00:22:26 You would lose 2.6% over the next 12 months because the starting level of interest rates is sufficient to offset most of the pain. So that's the risk there. Again, not a huge risk, but a risk nonetheless. The risk at the short end is what exactly, that the market is going to sniff out the Fed cutting before you will. And so you'll have all that reinvestment risk at the short end. Like, is that how you say it?

Starting point is 00:22:52 That's what it is. If they're fed were to cut, right? There isn't that much really for these rates to go up, right, for the bond prices to go up. They're offered at a discount and they trade pretty tightly. So since there's so, I don't say they're just rated sensitive. That's not entirely true. But they're of limited sensitivity. The odds that the government doesn't repay its bills in the next, you know, call it three months are pretty low.

Starting point is 00:23:14 So you're not going to see a tremendous amount of action. You'll pick up a little price appreciation, but just. it won't be as massive as on the long end. Where it gets interesting is like, oh, Bill or YouTube, that one two-year level, where now there's enough duration in there that you're going to see some price move. And the two-year, which is usually the hedge against inflation and the sort of short-term inhibition, that inflation expectation is where I think you'd see the most price action there. And I doubt that that is, that doesn't really have 100 basis points of yield give to it.

Starting point is 00:23:45 So it's not going to run against the 100 basis points. If the vet starts cutting and the short income comes down and you, Inflation is in check, and we all believe that, and the core numbers recently give us reason to believe that, at least for the short term, then you're going to see some bond action there. So prices will go up. You'll come down. But I think it will be, that's a good place for investors. That's a good return. I mean, if you funded the two-year today, and I told you in six months, you could pick up seven, eight percent in it. That's a really good trade and a risk-free bet. It's amazing. Yeah. And those are the kind of asymmetries that you're seeing now. Now, that's it. We talked about you don't have to be perfect on the timing here. But you have to accept. that duration does have that leverage effect, right? That's the convexity word that everyone gets afraid of. And then, you know, as a person in the rate space, I have to tell you, convexity is a second derivative. So it sometimes behaved a little differently than folks expect it to be.

Starting point is 00:24:33 But the good news is if rates go down in the short end, prices have gone up, and that's where you want to be. And if you don't, you just stick around and you get paid to your interest, which is still material. So it's a good place and a safe place to be hanging out while you're waiting for risk assets. Right. To your point, there was no margin of safety a few years ago, and now there's a way bigger margin of safety, even if you're wrong. Exactly. So, Michael and I have been talking for a month now or so about, like, well, why are rates rising?

Starting point is 00:25:01 People keep giving us their ideas and their guesses. And some people say, well, people are losing faith in the U.S. government because of all this debt ceiling stuff. And some people say, no, it's all supply and demand. The Fed went and bought a bunch of treasuries, then they pulled out. And then the government's issuing trillions of dollars of debt. So that's part of it, too. And on the other hand, I just think sometimes the bond market isn't as smart as we give it credit for. Maybe you can change my mind on this, but I feel like the bond market, if it's like predicting

Starting point is 00:25:29 the economy has done a terrible job in the last three years, like predicting inflation, predicting the fact that the Fed's going to stick around. Am I wrong here? It seems like the long end of the bond curve has been behind the eight ball at every move. Am I wrong? I think you're right. I wish I could disagree with you so we could have a fervent debate. But I think unfortunately, the bond market market just has never gotten this right. It's a bit like a growth equity person looking at their DCF model telling me, well, as a result of these interest rate changes, therefore Apple has to go down 50%. I've never seen a DCF model that's right. Yet, don't expect you tomorrow. And I think the bond market had the saying they were caught off car. And a lot of this is, again, if you're

Starting point is 00:26:06 dealing with complex problems, right? You've got the Fed governors who are making decisions. And those are 14 voting members who behave differently than the prior 14, right? So it's not like there's, it's not like the odds with a set of dice that never change. You have people are making different decisions, responding to different political environment, different political appointees, different viewpoints, and the rule set that they can operate under has changed dramatically since the last GFC and going into the GFC was different than it was coming out of it. So you're getting different tool sets, you get different sets or responses. And let's remember, you know, Chair Powell was very much for keeping interest rates low until he got reappointed. And then at first meeting he had the

Starting point is 00:26:44 opportunity to, starts raising them and puts us on an aggressive path to do that. And if you read between the lines, that was always going to happen. So I think the bond market was more aspirational in that sense. The other problem is the bomb market is really big. And there are some super large players who move very, very slow. So it takes a while for the message to take hold and they can't move a trillion dollars in a day. The market's big enough to absorb it, but they try not to. So even if they're smart enough in the right, it takes so long for everyone to start articulating those views, it may take a year or two to start to unwind and move to a new consensus. In that sense, do you mean like institutional buyers or like governments or what,

Starting point is 00:27:25 like this is the slow movers? Institutional buyers in particular, you know, who buy these and they're going to hold onto it. If you're an insurance company, you're buying a lot of debt, but you're buying that debt because you have a liability that you're looking to offset, right? So if you have life insurance policies, you're waiting to either collect premiums and never pay it out or, you know, upon death of individuals pay it out. So they've got, they've got actuarial tables and things that they have to manage to. Same is true for folks in the mortgage market, because it's repayment risk, less so to date than there was three years ago, obviously. So there have other folks who are in there. If those events happen, then they outwined the

Starting point is 00:27:59 trades. If they don't, they just keep holding on to that debt for a long, long time. And that 30-year bond they bought eventually just makes its way to behaving like a two-year, but so much of that two-year debt is just locked away in someone's cabinet that's never coming back out. And then you have the governments that get involved. There, it's hard for them to move money quickly. It's hard for Congress to do anything at all, much less to have other governments get behind a new fiscal theory and selling government debt, particularly if you're an ally, has some implication, right? So you've got to think that one through and act carefully. It takes a long time to unwind. Those are big dollar amounts, right? They're not buying a million

Starting point is 00:28:34 dollar denominations. If we could figure out, or if somebody told you where rates would be 12 months from that, it would make all this a lot easier because bonds are, you know, essentially just a function of arithmetic. You mentioned, and of course, of course we don't know, but you mentioned like consensus a second ago and where that might be. This is a notoriously tricky thing to resolve where consensus is. I think a lot of that is probably personal biases.

Starting point is 00:29:00 We were talking last week that it feels like consensus is higher for longer. and that happened pretty recently. But at the same time, if that actually were the case and how do you explain all the flows into longer dated treasury ETFs? Now, that could be, I don't know, how do you unpack this? Where do you think consensus is these days? So I think consensus is higher for longer now. We've been there for most of the year,

Starting point is 00:29:23 but we've been there for one very simple reason. There's two obvious stated mandates of the Fed, right? Price stability, which is inflation and employment. And they've been on a weird thing to get rid of to get rid of both of inflation and employment at the same time, which is a spot the Fed hasn't been particularly adept at, or never put in before. But the other side of that equation is the sort of unstated mandate that they've been adhering to, which is better communication, do what you say, tell the market what's about to happen, and work hard to be honest about that.

Starting point is 00:29:53 And if we took the Fed at their work, that they were actually trying to whip inflation and they weren't going to turn back, and they have done that. And then we took that with their word. they said they were going to slow down and be more data dependent. And I think I take them and think folks who take them with their word today. They will try to keep rates stubbornly high for about as long as they can because the economy seems to be resilient. Like we spent decades trying to build a resilient economy. We got one. And now the result of that is to make sure that they don't turn back too soon and risk overheating this or more importantly, throwing it into overdrive too fast and the whole thing stalls out. So I think as a result of that,

Starting point is 00:30:32 So they're going to try to do that. Some of the folks in the long end, I think, are looking at an opportunity to start trading in and get some of that duration assets because they don't think rates on the long end will go that much higher, given just reasonable growth expectations and what's happening elsewhere in the world. You know, maybe it makes sense for the U.S. debt to be, you know, to trade at a higher yield than, say, the German Bund. But if you look at other sovereign debts that are trading in the, you know, eights,

Starting point is 00:30:58 nine, tens, it doesn't make sense for our yields to be higher than that. So where do you trade in the middle? And I think a lot of longer duration investors are seeing this is a pretty happy medium. And they're taking the bet that this is about where it gives. Plus or minus 50 basis points is okay. Plus or minus 100 or 200 is going to get me get my face ripped off on the 30 year. But in the 10 year, I'm going to survive for a while. And it's a good time to start making that trick.

Starting point is 00:31:21 Alex, as we wrap this up, just one more time, what are some of the biggest differences? So the key differences between the PRFs that are on the market that might talk. target, say, a range, whether it's three to seven, seven, ten, whatever, versus the benchmark series that target a single maturity. Like, what are, what do investors need to know? So the multi-bond products are going to own a lot of different bonds. So that means they have different liquidity profiles. So it costs more sell for the ETFs to buy and sell them.

Starting point is 00:31:50 And that might impact your price that you're going to see. And they also have different coupons. So if you can't just look at the current coupon rate of, say, the two-year and expect to get that from a product that owns between one to one year and three years, as a lot. an example. And that average holding in that ETF is going to change. So if you bought between one and three years, you're going to own a lot of different bits of paper that on average and somewhere between one year and three years. But they don't always on average end to two years. Whereas if you bought you two, you will always get two years because we own one thing and one thing

Starting point is 00:32:22 only. And that's the on the moon to year. And that's true across the curve. So what you see is exactly what you get with the U.S. benchmark series. Not always the case with the multi-bonds. And just last thing. So you're rolling that every two weeks? So the two year gets rolled every month when it's issued. So between one year and 10 years. So one to the 10 is every month. 10, 20, 30 is every quarter. And then beneath that happens on a more regular basis, which can be up to every week. And the government's pretty regular. But every now and again, it misses a week or it does two in one week. So Alex Morris, appreciate the time. That was great. Thank you. Thanks to Alex again, he's always a great guest. Remember us treasury etf.com to learn more about their whole suite of products. They have three months, six month, 12-month tea bills, anywhere from two to 30 years on the treasury ETFs. And send us an email Animal Spirits at the compound news.com. Still getting used to that one, but I got it.

Starting point is 00:33:19 Nailed it. See you next time.

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Animal Spirits Podcast - Talk Your Book: Betting on Duration

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