How would you like a guaranteed return of 13.25% per year for 25 years?
Sound too good to be true?
Well, yes… in today’s market? That is too good to be true.
However, about 25 years ago, that’s exactly the kind of return the U.S. government offered.
On May 15, 1984, the Treasury department auctioned off $5 billion of 30-year bonds (callable after 25 years) with a fixed coupon rate of 13.25%.
You could have purchased bonds — with the backing of the U.S. Government — that would have guaranteed a double-digit return for at least 25 years.
In the context of today’s financial landscape — with 30-year Treasury bonds yielding less than 3% — that is nothing short of incredible.
How was the 1984 bond market possible?
So exactly why were government bond yields so high back in May 1984? How has everything changed so dramatically in the meantime?
In the 1970’s, phenomena like the energy crisis, double-digit inflation, stagflation, recessions, and a general malaise were deeply ingrained in the national psyche. This reality, coupled with the failure of Continental Illinois National Bank and Trust that same month, made investors reluctant to lock up their money at a fixed rate.
To entice money out of the proverbial mattresses of wary investors, the government had to offer a high interest rate.
Hindsight being 20/20, buying and holding that 30-year government bond would have been a brilliant investment.
However, today, we face almost the exact opposite predicament with the 30-year bond. Though it promises to yield less than 3%, investors are climbing over one another to buy it.
So are investors who buy 30-year bonds at today’s low yields making the same mistake as investors who were too scared to buy 30-year bonds at a 13.25% yield 25 years ago?
Are they doing the wrong thing at the wrong time, yet again?
As advisors, we gain an invaluable education from watching how times and investor behaviors change — and how fear tends to play a prominent role in the value of investments.
Back in 1984, people feared locking their money up at a historically high interest rate because the memory of the previous decade’s bad news was still fresh in their minds. And that same fear of losing money has driven down the yields of 30-year bonds to near historic lows, because investors are ardently seeking out the safest investments possible.
At the end of the day, it’s quite possible that declines in the stock market over the past year have led us to a situation similar to the May 1984 bond market.
More specifically, a climate of fear — along with a legitimate economic crisis — has caused a dramatic and undeniable drop in the stock market. But will we — perhaps 10 years from now — look back and say, “I wish I’d bought stocks back in 2009″?
We may not know the answer to that question for a while yet – but as with everything, it’s important to view present-day events within a historical context.
As George Santayana said, “Those who cannot learn from history are doomed to repeat it.”
photo credit: allyrose18
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