Dwindling Trust in Bond Market: The Pitfall of America's Debt Haven
Trump creatively designs a secure refuge for financial market investments
In the realm of finance, Trump's trade tactics have little impact on the stock market, but they've shaken the bond market's faith in trust. The once revered safe haven of the global financial system, U.S. bonds, is now wavering with investor confidence. They're seeking alternatives.
When a nation's finance minister must assure the safety of its debts—that's usually a bad sign. It's often a harbinger of impending default. So, it's no wonder the market wrung its hands when US Treasury Secretary Steven Mnuchin declared last week that the USA would "never default" on its exorbitant $28 trillion in debts, mostly in the form of government bonds. But can Mnuchin realistically make such an assertion? The USA's indebtedness exceeds that of any other nation, leaving one to ponder the statement's credibility.
Before Donald Trump, the USA boasted a sterling credit reputation, served as a "safe haven" for investors worldwide. But Trump, with his tariff wars and tax plans, has chipped away at this status in record time. Investors are increasingly wary of Trump's economic policies, opting to maintain distance.
"The safe haven has been mined," remarked LBBW chief economist Kai Carstensen, who'd worked for S&P when it was the first rating agency to downgrade the USA from its top triple-A rating back in 2011.
Disconnecting Bond Yields and Dollar
This skepticism regarding Trump's policies is palpable, as evidenced by the decoupling of U.S. bond yields and the dollar. For years, their trajectories coincided, both rising in tandem with a strong U.S. economy. However, since mid-March, both have largely diverged, with the dollar's value falling by 4.7% and 10-year U.S. bond yields rising from 4.16 to 4.42% since Trump's "Independence Day" on April 2, when he slapped tariffs on the entire world.
In normal circumstances, higher yields signal a robust U.S. economy, drawing capital inflows. But, "if yields rise because U.S. debt becomes riskier due to fiscal concerns and political uncertainty, the dollar can weaken at the same time," explains Shahab Jalinoos, head of G10 currency strategy at UBS. This pattern is "often seen in emerging markets," Jalinoos adds.
The International Ratings' Agency Moody's Downgrades the USA from AAA to AA1, while Credit Default Swaps (CDS) Approach Levels of Greece and Italy.
A further expression of this skepticism is evident in the downgrade of Moody's from AAA to AA1, as well as the widening of CDS, a kind of insurance against the default of a debtor (in this case, the USA). These are now at the level of Greece and Italy. Moreover, in some auctions of U.S. government bonds, the USA has struggled to find buyers.
For Many Professional Investors, these movements are already indicative of a greater loss of confidence in the USA. "The strength of the dollar is also based on the integrity of institutions: the strength of the law, an independent central bank, and predictable politics," Michael de Pass, FX chief at Citadel Securities, told the British newspaper "Financial Times." Trump undermines all this.
Seeking Solace in Foreign Soil: The Beneficiaries
Even if Trump desires a weaker dollar to make exports more competitive, he likely doesn't want a structural loss of confidence in the dollar. Only through the dollar's status as the world's reserve currency can the USA attain its current size and power. Losing this status would strip Trump of much of his negotiating power—something the self-proclaimed "deal-maker" is unlikely to welcome.
While Trump may accelerate shifts that were already underway, analysts see him as an enabler. Goldman Sachs contends that there may have been a fundamental shift in the USA's valuation. "The recent phenomenon of dollar weakness combined with higher yields and lower equity prices (...) has posed a challenge to conventional portfolio hedging," the analysts write. They attribute this to Trump's attack on the Federal Reserve and his expensive tax package.
In short, investors are already exploring alternatives to the dollar. Goldman Sachs isn't alone in this conclusion, with UBS's expert Jalinoos stating, "the greater the political uncertainty, the more likely investors will increase their hedging ratios." The long-term beneficiaries of Trump's policies are reportedly located in Frankfurt, Tokyo, and Zurich. Investors should position themselves in euros, yen, and francs, the paper suggests. Another asset class gaining attention is gold.
Originally published on capital.de, Source: ntv.de
Related Topics:
- Donald Trump
- US Debt Crisis
- Bonds
- Tariffs
Additional Insights:
If you're seeking a safe haven from the tumultuous U.S. bond market, potential alternatives include several currencies and assets:
Alternative Currencies
- Japanese Yen: Known for its stability during economic uncertainty, the yen often attracts investors who wish to flee market volatility. Its value increases when global investors perceive Japan's financial policies and economic stability as superior.
- Swiss Franc: Boasting a sterling reputation for robustness, the Swiss franc is valued for its strong economic fundamentals. While expensive compared to other G10 currencies, it remains a popular haven.
- Sterling (GBP): Sterling, despite facing challenges, is expected to show resilience, particularly in comparison to the Swiss franc. Optimism surrounds its performance against the U.S. dollar, particularly if the U.S. economy faces significant obstacles.
Other Assets
- Gold: Historically, gold serves as a safe haven asset for investors during times of economic uncertainty. Its value often increases when investors lose faith in traditional currencies. Gold's strong showing in recent market conditions underscores its effectiveness as a diversification tool.
- Other Commodities and Currencies: Non-traditional safe-haven currencies like commodities (e.g., precious metals) and currencies with strong economic fundamentals can also provide alternatives. The rise of de-dollarization and diversification in central bank reserves suggests that nations are exploring a broader range of assets for their reserves.
Maintaining the U.S. dollar's preeminent position as a reserve currency and safe haven, while facing challenges, remains significant. Although alternative assets and currencies have gained interest, the U.S. dollar's structural advantages, such as deep and liquid financial markets, strong legal frameworks, and its role as a global monetary anchor, offer sustained support to its standing.
The United States government, under Donald Trump's administration, is experiencing a loss of investor confidence due to escalating debt and tariffs. In response, the community and employment policies, as well as the finance sector, are under scrutiny. As a result, investors are exploring alternative options for their funds, including foreign currencies. The Japanese Yen and Swiss Franc, known for their stability during economic uncertainty, could prove potential safe havens. Additionally, other assets such as gold and other commodities could serve as alternatives for those seeking diversification during this time of uncertainty.
