We all have our personal nightmares – thermonuclear war, global pandemic, the inauguration of President Donald Trump. But in recent weeks, what has kept me tossing and turning is the 1-per-cent horror.
I refer, of course, to the yield on the Government of Canada 10-year bond. You may have noticed the payoff on this benchmark investment has been staggering downhill ever since the financial crisis. Five years ago, it still stood well above 3 per cent. As I write this, it wobbles around 1 per cent, close to its lowest point in history.
The long, sad decline in the bond's payoff – especially its steep descent in recent months – provides plenty of reason to stare at the ceiling at 3 a.m. The dwindling yield suggests many people have turned deeply pessimistic about both stocks and the economy.
In normal times, no sane investor buys a long-term bond that pays next to nothing. Over the course of a decade, the payoff from a 1 per cent bond just about always runs a poor second to stocks. But that logic doesn't hold if you think a stock market meltdown and deflation lie ahead. In that case, even a 1 per cent yield looks tempting. These days, many investors appear to have concluded a paltry but certain return is just fine. Their willingness to accept such a shrivelled yield demonstrates how desperate they are for a refuge.
The desperation isn't limited to Canada. All around the world, bond yields have tumbled as expectations for the future ratchet lower. The fascinating question is what has turned everyone so sour.
One of the more convincing theories comes from Larry Summers, the Harvard University economist and former U.S. Treasury Secretary. He argues the world has slipped into secular stagnation – a prolonged period in which both growth rates and interest rates will be substantially lower than in the past. Secular stagnation may be the result of a growing number of older savers in developed nations, a slowdown in technological innovation, a global savings glut or something else entirely. But as mysterious as the causes might be, the trend itself seems clear, Summers says.
He notes that interest rates have been sliding for two decades. Meanwhile, the global economy has consistently fallen short of forecasts in recent years. Over the past 20 years, even the powerful U.S. economy has been able to achieve respectable growth only during the brief periods when it's been inflated by unsustainable bubbles in tech stocks or home prices.
Summers's preferred solution is more government spending. As you might expect, not everyone agrees. Some people believe the current malaise is a lingering effect of the crisis, and normal growth will resume soon.
For now, investors are in a quandary: Should they see dismally low bond yields as incentive to put more money into stocks, which can potentially deliver much higher returns? Or should they view the low bond yields as flashing red lights warning of slow growth ahead, with potentially dire implications for stocks?
For now, my answer is to keep buying stocks, but only at the most conservative, value end of the spectrum. If you have better ideas, shoot me an e-mail. And don't worry if it's the middle of the night – I'll be up.
Follow Ian McGugan on Twitter: @ianmcgugan