- Raoul Pal, the former hedge fund manager who founded Real Vison, thinks negative rates need to come to the US so the rest of the world can “readjust to this ridiculous dollar.”
- Pal also notes the nefarious potential side effects of negative rates, which include immense pressure on banks and pension funds not being able to meet their liabilities.
- He thinks the whole pension system will eventually have to be underwritten by the government.
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With levels of negative yielding debt tipping the scales at about $15 trillion worldwide, it comes as no surprise that the phenomenon is at the forefront of money managers’ minds. After all, their deployment is unprecedented and their consequences largely unknown.
So far, negative rates have mostly been sequestered to Europe and Japan — and the consensus view on Wall Street and at the Federal Reserve is that they won’t be creeping onto US soil anytime soon.
But not all are quick to dismiss negative yielding debt presence in the US. And one former hedge fund manager thinks their implementation is nothing short of inevitable.
That man is Raoul Pal, founder of Real Vison.
To bring you up to speed, Pal retired at age 36 after quitting jobs at both Goldman Sachs and GLG Partners. He lives comfortably on a 140-person island in the Caymans, and spends his days writing market research which comes with a hefty $40,000 per-year price tag.
Pal thinks the US economy is on a one-way track to negative interest rates — an idea that was perceived unfathomable just a few years ago.
“US yields are too high,” he said on The Sherman Show, a podcast hosted by Jeffrey Sherman, DoubleLine Capital’s deputy chief investment officer. “They need to go to zero at least — and I think negative — for the world to start to basically be able to readjust to this ridiculous dollar.”
Pal’s thesis behind the call is straightforward.
US Treasurys are one of the only place investors can capture a real risk-free return. And as a result, demand for them has been insatiable. Those Treasurys are priced in dollars, so high demand for treasuries translates into high demand for the dollar.
It’s created a cycle that’s feeding on itself. And, according to Pal, it’s creating formidable problems for the rest of the world.
Pal has the US President in his corner as well. President Trump has repeatedly expressed his distaste for a strong dollar, saying recently: “As your President, one would think that I would be thrilled with our very strong dollar. I am not!”
But that’s not all. He’s quick to warn of the unintended consequences that come hand-in-hand with negative rates. Specifically, the immense amount of pressure below-zero yields have on banks and pension funds.
“You can see that in Japan and you can see it in Europe — the banking system cannot deal with negative rates,” he said.
For context, over the past 5 years, the iShares MSCI Europe Financials ETF (EUFN) — a proxy for bank health in the Eurozone — has lost over 17% of its value. Proof that confidence is waning and the sector is deteriorating.
Still, this isn’t the biggest of his concerns.
“The really big problem — the dirty secret — is no pension is going to meet its liabilities,” he said. “It is impossible to meet your liabilities with negative yields.”
He continued: “The fixed income that needs to be paid out to retirees is basically impossible.”
Pension funds rely on fixed income investments to deliver steady streams of capital to their recipients. However, in a negative interest rate environment, this is no longer an option. A reliable flow of capital falls by the wayside. As a result, pensions are forced to take increased risk in order to meet their bare minimum requirements.
That’s a problem — and Pal thinks it’s effects could be disastrous.
“If we’re not careful, most of these pension systems will go into the next recession with far too much risk in corporate credit and equity, and not enough government bond risk,” he said. “Therefore, they’re going to end up with big black holes from the losses that usually come in a recession, but just as people retire.”
He concluded: “My guess is that the government are going to have to underwrite the pension system at some point.”
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