Interest rate markets are quiet today. Stocks continue to rally. It doesn’t seem there is any near term end to the gains in equities and demand for US corporate debt either.

Corporate bond purchases this year totaled $100B, mostly from foreign investors looking for any yield with most major markets coping with negative rates. The belief is 2020 will see continuing corporate debt buying. We believe there is a problem though that when it surfaces will crush those investments, whether in 2020 or the next year. If corporate debt were valued as the debt matrixes have been historically, only about 38% of the “high” grade bonds would have valuations that have been considered high-grade debt.

Then there is the reality that foreign investors are not hedging currency risks. Holding naked corporate debt is necessary and extremely dangerous. If the currency risk is hedged, the return on many of the purchases wouldn’t show any return at all on many of them. What has helped is that the Fed cut rates three times last year, but 2020 the Fed and expectations now are that the Fed will not cut next year. The weakening dollar also helped. The rate cuts made it cheaper for international buyers to protect against the risk of currency fluctuations. Three-month dollar-hedging costs based on forward contracts for euro- and yen-based investors have dropped significantly this year. 2020 isn’t going to be that good. The 10 yr US note moving to 2.05% in Q1, and short term hedging rates will increase. Looking in the rearview year is easy, betting on 2020 is a different animal. US corporations are heavily in debt, once (if) that sinks in the corporate bond market will be in serious difficulty.

This afternoon Treasury sold $32B of 7 yr notes; not as well-received as The 5 yr auction on Tuesday, it was sloppy. The rate of 1.853%, higher than in the WI market at 1.844%. Bid/cover 2.47 compared to the last 12 7 yr auctions at 2.43, indirect bidders took 59.4% compared to the average of 60.8%, direct bidders though stepped up taking 23.4% compared to 17.9% average.

Source: TBWS