The Junk Bond Bubble

We mentioned the other day that we reckon the Junk Bond market and the levels at which these credits are trading are a bubble that is an unintended consequence of the easy money policy that exists in the North Atlantic economies at the moment. We think this will inevitably end in tears.

This week NBER told us something we didn't need to know at a time when there are serious concerns about the next leg lower in the US. In this little blog from Buttonwood they look at both equities and payouts and, at the end, the length of US cycles. the key point for us is the following:

"if we have reached the end-game of the debt super-cycle, then recessions will be more frequent. The last recession started in December 2007; if the cycle is 56 months, the next one is thus due in August 2012, less than two years away. Such short, sharp shocks make high-yield bonds look a very bad investment. The asset category changed in character during the great moderation; junk bonds used to be investment grade bonds gone bad, but after the mid-1980s, companies issued primary debt at junk yields. An economic cycle that lasts almost nine years gives investors a chance to earn their yield and get out before the bust; a cycle that lasts less than five years makes that much more difficult."

Investors are lapping these things up because they think they will beat the cycle. Certainly easy money makes it easier to finance and rollover debt so, to a certain extent, forestalling and financial difficulties but in the end its about demand and earnings. As we muddle through the recovery and as its chances to morph into another dip grow so the Junk Bond market looks more and more like an asset class to avoid.

Here is the link to the Buttonwood Blog http://www.economist.com/blogs/buttonwood/2010/09/real_returns_and_dividends