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What We Can Learn From Crazy Bond Prices

There was an article in the Financial Times this week about bonds (High time for greed to yield to fear). It was very oblique and unclear, since it was largely quoting analysts and investment banks, all of whom, in my experience and opinion anyway, generally refuse to stick their necks out by telling it like it is.

The bottom line is that bonds are now so expensive that the returns you get on them are very low and the risks extra high.

Investors are paying so much for bonds that the interest they'll make is virtually zero and, in real terms, sometimes actually less than zero.

It gets worse

The point the FT article was making – in a far too understated way – is that basically prices have got so insane that there's only one realistic way that this can end. When QE ends, or even earlier if another catalyst sets the panic off first, bonds will sell off and prices will fall dramatically.

Two things will then happen. Firstly those selling the bonds will lose a lot of money by selling the bonds for considerably less than they paid.

Secondly, those buying at the other end will be the sensible ones who are likely to turn a decent profit on what, in the end, really is a low-risk investment when it is bought at a good price.

Why mince words?

Why can't analysts put that into plain English like I have just done?

Possibly it's because they're just too frightened of saying it first before anyone else, in case they get it wrong. Mistakes are remembered much more readily if you make them alone. If you all go down together you can comfort each other by saying that a lot of other smart people got it wrong too.

Or perhaps they just don't want to admit the truth, since it'll stuff them as well as their clients.

Or maybe they're scared of being the ones who spread the panic that finally sets off the doom.

How will this affect individuals lending through P2P?

The FT article was about the US market, but it could easily apply to any of the highly over-indebted countries, such as the UK, that have seen QE as well as government manipulation and other forces push investors into buying copious amounts of bonds.

P2P lending is, on the other hand, still largely sensibly priced, in my opinion. It's not directly affected by QE or other systemic forces that have caused the bond craziness, so, if you or I buy a loan part today, we can still generally expect a reasonable return for the risks we're taking.

That doesn't mean we won't be completely unaffected by a bond market collapse. Businesses that lose money on bonds might be customers or employers of your own P2P borrowers. But we can surely expect that the impact is going to be far less severe on us, so far from the epicentre.

I think the key message from this though is that these things do happen to all investments from time to time and it will sometimes happen in P2P lending, so you want to be the ones buying loan parts after such a crash, not selling during it.

So make sure you read between the lines when the FT is quoting analysts about “volatile trading rotation” and “correlation breakdowns” in P2P lending. Or just subscribe to 4thWay below and we'll be put it rather more plainly.

Read the 4-Step Strategy to Safe Peer-to-Peer Lending.

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