Ian Cowie

Investment: Will bonds crash as shares rise?

Two investment experts debate the prospect of a ‘Great Rotation’

Tim Price: In a normal market, maybe. But not in this one

UK base rate squats at 0.5 per cent, its lowest level in history — or since the formation of the Bank of England in 1694, which is much the same thing. With sporadic signs of inflation and patchy evidence of recovery, plus a new broom at the Bank of England who is expected to be boldly interventionist, the financial chatterati are transfixed by the prospect of the ‘Great Rotation’. This much-anticipated shift out of UK government gilts, and bonds more generally, back into equities reflects expectations that bond prices are due for a fall because interest rates must inevitably rise, while shares are overdue for an upswing. There’s only one problem with this thesis. It’s nonsense.

Admittedly, market forecasting is now virtually impossible, courtesy of the same blanket manipulation of securities prices by central banks that is keeping the yield on government bonds so low in the first place. Given that most western nations are essentially bankrupt, the rock-bottom yield on government paper might seem perplexing to any objective investor. If governments are functionally insolvent, shouldn’t the rate they pay for their borrowing be going through the roof?

Indeed it should. The reason it isn’t is because the banking system throughout the West is also functionally insolvent, more or less, and venal banking institutions need, for reasons that governments have done a bad job explaining, to be kept afloat. So we now have the most surreal of farces playing out in the financial markets. Bankrupt banks are lending money they don’t have to bankrupt governments who are doing the best they can to keep the game going — and manipulation of interest rates plays a key role in its perpetuation.

To get a sense of the enormity of the forthcoming crisis, consider the extent of indebtedness at an international level.

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