Those three firms held a total of $6 trillion in client money at the end of the third quarter, compared with $2.9 trillion at Bank of America Corp.’s wealth-management business, and they profit from spread lending—investing low-cost, often free client money at higher interest rates. They are betting their customers will remain insensitive to returns on their money and that free commissions will induce investors to leave these excess funds with them. Still, average money-market yields are much higher at 1.8% and in the first half of this year, and Schwab clients moved $58 billion into money-market accounts and other higher-yield alternatives. Also, Robinhood Markets just announced a 2% return for uninvested customer cash through partner banks.
Savers are slowly but reluctantly adapting to zero real interest rates, and one of the arguments in favor of stocks is that they offer better total returns. The average dividend yield on the S&P 500 Index is 1.9%, just above the interest rate on the 10-year Treasury note. This has kept stocks very inflated with the cyclically-adjusted price-to-earnings ratio about 50% above its long-term average. In Europe, negative interest rates are inducing depositors to put currency in vaults and to save even more for retirement rather than spend. In Switzerland, individuals are fleeing to real estate, stoking fears of overbuilding.
With robust demand, global sales of new government and private sector debt obligations are soaring, notably junk bonds. Some $4.6 trillion was issued through August, up 12% from a year earlier, according to S&P Global Ratings. Net corporate debt in relation to cash flow soared from 1.2 times in 2010 to 1.7 times at the end of 2018.
Today’s risk-taking in search of high returns is not as eye-catching as was the subprime mortgage bonanza, but it’s much more widespread and, therefore, ominous. My advice to individual and institutional investors: reduce your leverage and risk and adapt to an era of chronic flat real interest rates.
This article was provided by Bloomberg News.