Perpetual Bonds or Preposterous Bonds?

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As healthcare improves and the population ages, perhaps it’s only natural that the duration of loans should lengthen too.

As The Age reports:

Ireland sold its first so-called century bond, less than three years after it regained economic sovereignty by exiting an international bailout program.

The nation’s debt office sold 100 million of the securities at a yield of 2.35 per cent by private placement through Goldman Sachs Group and Nomura Holdings. Last year, Mexico sold the world’s first 100-year government notes in euros.

There are two ways to look at this.

First, if you can get someone to lend you money at 2.35% for 100 years, why wouldn’t you take advantage of that generosity?

Second, it’s as sure a sign as any that if a government wants to lock in debt repayments at this low rate, it must have some belief that interest rates won’t stay low for long.

The screenshot from the Bloomberg terminal shows the 100-year bond in all its glory:

Source: Bloomberg

Click to enlarge

Maturity for this bond is on 1 April 2116.

Of course, we shall make no comment about any April fools buying this bond.

(By the way, this year marks 100 years since the 1916 Easter Uprising in Ireland. The event that accelerated Ireland’s move towards independence from the United Kingdom. A 100-year bond is a nice way to celebrate, right?)

Long term wealth destruction

Talk of a 100-year bond jogged your editor’s memory about a story we read in Grant’s Interest Rate Observer last October.

To quote:

Long-term — truly long-term — fixed-income investing is the subject at hand. A 1648-vintage Hoogheemraadschap Lekdijk Bovendams perpetual, 1,000 gilder gold 5% bond is the security in focus. Issued to finance essential repairs to the dikes along a 20-mile stretch of the lower Rhine, the relic continues to pay interest, though no longer in gold (you get euros) and no longer at 5% (you get 2½%). That you get anything at all is remarkable. That you get so much less than that which your creditor forbears had originally contracted to receive is food for thought.

Apparently, Warren Buffett’s favourite timeframe for holding an investment is ‘forever’. Does that stand true for bonds…and in particular this nearly 400-year old Dutch investment?

The article provides the answer:

Paul Isaac, founder and general partner of Arbiter Partners, observes that the Netherlands is a stable political jurisdiction and that a loan to a water authority along a flood-prone river meets the highest standard of essential public finance. Yet over the course of 367 years, the real value of the security has fallen by some 98% — “and this has to be one of the best performing fixed-income securities in the world over the past three and a half centuries.”

Buy and hold ‘forever’? In this case, maybe not. And it’s perhaps a warning sign for the pension funds and insurance companies, which no doubt piled into Ireland’s 100-year bond issue.

As the experience of this ancient Dutch bond shows, what you buy isn’t always what you get.

This perpetual bond won’t last for long

The Dutch appear to love a good perpetual bond.

The 3% coupon bond issue on 1 March 1896, still has an amount of three billion guilders outstanding.

At the synthetic exchange rate of 2.2037 guilders to the euro, that amounts to a touch under 1.4 billion euros.

With current Dutch 30-year bonds yielding a paltry 0.959%, and bonds of up to seven years duration with negative yields, it can only be a matter of time before the Dutch government calls in all its perpetuals, and ‘rewards’ investors with a healthy dose of negative interest rates.

An odd definition of pride

It may be completely irrelevant to you as an Aussie investor who invests in Aussie stocks, but now we’re on the subject, we just can’t leave it alone.

We just had to do some digging around.

In 2014, as the Guardian reported at the time:

The [UK] government is to repay the nation’s remaining £1.9bn first world war debts and is considering clearing the “perpetual” bonds dating back to the 1720 South Sea Bubble crisis and the Battle of Waterloo.

How about that for a bit of history, folks?

According to the report, the UK government has paid around £5.5 billion in interest, just since 1917.

In paying off that debt (with new debt, if you don’t mind us inconveniently mentioning it), UK Chancellor of the Exchequer, George Osborne said it was ‘a moment to be proud of’ and ‘a sign of our fiscal credibility and it’s a good deal for this generation of taxpayers.

What he really meant to say is that interest rates are so low, and that all government bonds are really perpetual anyway, the government may as well lock in a lovely low interest rate…so that they can borrow even more money for the same price.

That’s what he meant to say, but it came out as it being ‘a moment to be proud of.

We suppose that pride means different things to different people.


Kris Sayce,
Publisher, Money Morning

Editor’s Note: The above article is an edited extract from Port Phillip Insider.

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