On January 11, 2020, Hugo Chavez Frias was sworn in for a third term as Venezuela’s president, promising to expropriate strategic sectors of the economy, specifically public utilities and oil properties and to generally run rough-shod over property rights and the rule of law.

	President Hugo Chavez

This is unadulterated good news for the US domestic bond markets.

With socialist or left-leaning governments emerging from the corrupt soup of democratic politics in Bolivia, Chile, Brazil, Nicaragua, and Venezuela, wealthy people throughout Latin America have reason to look out for their wallets.

Building dollar reserves abroad through false invoicing of exports or through the black market is good business and prudent behavior when facing a growing trend towards socialist expropriation of property.

Frightened capitalists in ‘democratic’ regimes help keep the dollar the unofficial ‘world currency’, boosting the US trade deficit, and, as an inevitable result, sending money into the US fixed income market, pushing bond prices upwards.

Lighting a Candle to Saint Jimmy

Countries throughout Latin America are now entering the end game of the ‘democratization’ movement of the continent, which started with US President ‘Jimmy’ Carter’s ferocious attack on the Brazilians that had engineered an ‘economic miracle’ in that country in the 1960s and 1970s.

US bondholders, I suppose, should light a candle to Jimmy Carter, America’s worst president.

Every time he hugs and kisses a socialist dictator, encouraging a developing country to take the socialist road to misery and poverty, capitalists throughout the world shudder and millions more move into offshore dollar accounts that have kept US interest rates falling for a generation.

So I say, thank you Jimmy Carter, thank you Hugo Chavez, for helping to keep US interest rates low.

The Democratic Party and its supporters have indicated a willingness to enact legislation that will reduce demand for bonds, while increasing supply: a recipe for lower bond prices and higher yields.

There are few signs that the weakened Republican Party, now in the minority, will put up effective resistance.

Here are some signs, portents, and expectations:

• Increased Minimum Wage: No matter how you cut it, increasing minimum wages is inflationary and Federal Reserve Chairman Bernanke seems to be genetically programmed to increase short term interest rates at any sign of inflation. This would put negative pressure on short-term bond prices.

• Protectionist Trade Measures: Labor unions may seek payback for supporting the Democratic Party with protectionist legislation that will tend to cut back imports. This could decrease the supply of foreign dollars that support the bond market. Decreasing the supply of less expensive foreign goods also contributes to inflation — another signal to Chairman Bernanke to raise short-term interest rates.

• Support for Fannie Mae: With Democrats in control, Fannie Mae should be out of regulatory limbo, able to increase issues of mortgage-backed bonds, now competing with asset-backed securities from commercial banks that moved to take over the market while Fannie Mae was repairing its balance sheet.

• Support for Stock Buybacks: Democratics have long-favored reducing corporate income taxes, since large companies are their favorite tax collectors. Democrats have avid supporters on Wall Street, including corporate executives, speculators like George Soros, fund managers, and investment banks, all of whom stand to benefit from stock buybacks. Reducing corporate income tax gives executives money to spend on buybacks to jack up the value of their options, as seen with the Jobs Creation Act. Recent increases in stock buybacks have been financed by bond issues, putting pressure on long term debt markets.

• Support for Defined Benefit Pension Plans of Unionized Civil Servants: The real payoff for trade unions will come in increased benefits for unionized civil servants, which means higher costs for states and municipalities, higher local taxes, and new bond issues. See: “Municipal Bonds and the Democratic Takeover of Congress“.

The Trade Deficit Still Rules

The key to the bond market, of course, is the trade deficit.

It seems unlikely that the Democrats will reverse long-term policies that favor the trade deficit, at least not immediately, so this powerful source of demand for bonds should continue.

It’s too soon to expect retiring Baby Boomers to move into bonds, especially while the stock market is bolstered by buybacks. The Democratic Party supports tort lawyers (who have begun to show interest in class action suits involving buybacks), but this is unlikely to impact the buyback trend in the short term.

All in all, it would seem that the outlook for bonds is less positive with a Democratic Congress, but not to a degree that suggests an immediate change in long-established trends.

As expected, the Pandora’s box called the “Pension Protection Act of 2006” is full of nasty surprises. The Wall Street Journal (October 25, 2020) reported that the new “Pension Law Shrinks Lump-Sum Payments” to workers.

See: New Pension Laws Will Alter Capital Flows

Here is how Congress managed to cheat American workers:

• Under the old law, when a worker retired with a ‘defined-benefits’ retirement plan, he or she usually had the option of choosing a lump-sum payment instead of a fixed pension for life from the employer.

• In calculating the value of this lump-sum payment, the law required the same conservative methods that private insurers use when pricing annuities. In other words, in valuing the worker’s pension, a low interest rate, based on government bonds, was used.

• By choosing a conservative rate in valuing an annuity, the present (lump-sum) value of that annuity is greater than it would be if a higher interest rate, based on the riskier corporate bond market, were used.

• One reason for a worker to take retirement benefits as a lump-sum payment would be to purchase an annuity from an insurance company in the private sector. With many company pension plans under-funded and with corporations impairing their future solvency by massive stock repurchases and excessive executive pay, the lump-sum payment option was often the prudent decision.

• Now, privately insured annuities are generally safer than company pension plans simply because the insurers don’t want to go bankrupt; they select the lowest safe rate of interest when pricing their plans. In other words, they use rates based on US Treasury securities.

• Now, the sardonically misnamed “Pension Protection Act of 2006″ has reduced the amount of lump-sum payments on workers’ pensions by allowing companies to use corporate bond rates, rather than US Treasury bond rates when calculating the value of the annuity.

• This means that a worker who tries to protect his or her pension plan by choosing a lump-sum payment and purchasing a privately insured plan, is now out of luck, because the insurance companies are not so stupid as to price their product at a higher, speculative interest rate of the corporate bond market. Therefore, switching from a company pension plan to a privately insured plan will mean workers will have a lower monthly payment to face their ‘golden years’.

Of course, a worker can elect not to accept a reduced lump-sum payment and put his or her trust in the financial solvency of the employer. However, if the company goes bankrupt, the pension plan will be taken over by the government’s misnamed, “Pension Benefits Guarantee Corporation”, which usually means that the value of the worker’s pension will be reduced.

Bad New For Life Insurance Companies

By reducing the lump-sum payments on workers’ pensions, Congress also reduced the potential flow of funds from company pension plans to privately insured annuities, thereby stiffing not only workers, but insurance companies.

By reducing the chances of workers’ shifting to private insurers, Congress also increased the chances of company pension plans being delivered unto the tender mercies of the already insolvent “Pension Benefits Guarantee Corporation“, thereby, in the last analysis, increasing the burden on the American taxpayer.

Stay tuned … More unpleasant surprises in the “Pension Protection Act of 2006″ are likely to be revealed as booby traps hidden by corporate lobbyists in this massive piece of legislation are uncovered.