by Randall W. Forsyth
The Buffett of Bonds isn't retiring yet. Dan Fuss, on whom we bestowed that moniker decades ago, is still putting in a full week as vice chairman of Loomis Sayles. And he sounded as sharp as ever when we caught up with him this past week just before he was to mark his 93rd birthday.
That means he's still junior to Warren Buffett, who stepped down as chairman of Berkshire Hathaway last month after his 96th birthday. While Fuss handed over the reins of managing portfolios, including the flagship Loomis Sayles Bond fund, in 2021, he's still involved in key decisions, imparting his wisdom accumulated over some 68 years of investing.
Fuss evinced a marked degree of caution on the outlook for fixed-income investing when we chatted, which, as it happened, was just before the bond market crashed. "Crash" is no exaggeration in describing the jump in yields and corresponding plunge in prices this past Wednesday. While most news accounts emphasized the rise in the Treasury 10-year benchmark yield past the 5% mark, and the 30-year long bond yield hitting 19-year highs, the carnage extended across the yield curve to the usually less volatile short-to-intermediate maturities.
So, how should a bond investor proceed in these turbulent times? Avoid long-term bonds, Fuss says. The risk of rising yields is too great, given the massive fiscal deficit at home and geopolitical uncertainty globally. At this point, only institutions that have to fund ultralong-term liabilities, such as pension funds, should consider buying long bonds. "It would take a team of oxen to make me buy a 20-year bond," he said in a comment typical of his Midwestern roots.
Most investors, Fuss says, should follow a middle course, quite literally. Intermediate Treasuries, due in five to seven years, provide nearly as much return as longer bonds with much less risk, either from rising yields or credit risk.
The five-year Treasury note hit 5% this past week for the first time since 2007. At 5.01% on Thursday, the five-year provided 97.5% of the 5.14% yield of the 10-year note with only 55% of the duration. (Duration is a measure of a bond's price sensitivity to yield changes; the higher the duration, the greater the volatility risk.)
The relative risk/return trade-off in favor of intermediate maturities was a hallmark of the rising interest-rate regime that saw bond yields hit historic peaks in the early 1980s. Looking back at that era, Fuss said the current time recalls the period around 1976, when the Federal Reserve was trying to slow the inflation that had been building for nearly a decade. Not until Paul Volcker became chairman and sent rates to unprecedented levels near 20% was the back of inflation finally broken.
Right now, Fuss has little confidence in the future. Buying a putatively risk-free long-term Treasury obligation necessarily means accepting payment in the unit of account in which it is denominated, the U.S. dollar. The greenback's value is uncertain given risks he sees from fractious domestic politics. The retired U.S. Navy officer also has long had concerns about meeting geopolitical challenges abroad.
When Volcker pushed rates skyward, the federal debt totaled only 35% of U.S. gross domestic product and about 8% of total federal spending. Now, U.S. debt exceeds GDP and $1.2 trillion, more than military expenditure.
As DoubleLine founder Jeffrey Gundlach observed on X this past week, Fed rate hikes worsen the government's interest expense and the deficit. Conversely, holding down interest rates to ameliorate Uncle Sam's interest costs-so-called fiscal dominance-risks worsening inflation, he added.
Growth is unlikely to solve the debt problem, either. According to the Committee for a Responsible Federal Budget, it would take sustained real (inflation adjusted) annual growth of 3.8% over the next decade to hold debt at 100% of GDP. That's 83% stronger than the Congressional Budget Office's long-run growth estimate of 1.8%.
Fuss also is keeping a wary eye on the massive borrowing by corporations to fund capital expenditure for artificial intelligence. One of the first tenets he imparted more than three decades ago was to favor bonds that go up in price. That's the opposite of what's now happening.
Fuss said the Loomis team is actively studying AI-related securities for possible opportunities. He's fond of another market aphorism, that there are no bad bonds, only bad prices. At this point, AI debt prices still haven't fallen enough for the team to consider. Maybe discounts on the order of 15% from par might get him interested.
And the risks of corporate debt in the AI sector were writ large this past week after Oracle sent a force majeure notice on a major data-center project. While that pushed its already-beleaguered stock down this past Thursday, it pushed its bonds due in 2056 above 8% for the first time, according to a post on zerohedge.com. The software-and-cloud computing company still clings to an investment-grade ratings (Baa2 by Moody's Investors, BBB-minus by Standard & Poor's, and BBB by Fitch Investors), but those bonds' yield is above that of mid-grade junk bonds, now about 7.5%.
All the risks of the fiscal deficit, the future monetary policy needed to contain inflation, and corporate credit risks make Fuss cautious. For Loomis' pros, he sees emerging bargains among better-quality speculative-grade (BB or B) names where they can do the deep dive into their credits.
But he prefers intermediate-term Treasuries for typical fixed-income investors, who can them buy at regular auctions. Most online brokers also offer free trading of new and outstanding Treasury securities.
That's the wisdom of someone who has been investing longer than many of us have been on this Earth. Many happy returns, in every sense of the word, Dan.
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