11 April 2020

John Mousseau on Risk in the Fixed Income Market (Podcast)

1Frameworks

12Insights

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Liquidity-or-Credit Selloff Test

Separate forced selling from deteriorating repayment capacity before acting

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Insights & moments

The myth-busts, hot takes, explainers, and tools worth keeping.

Myth Buster· 1

Myth Buster29:03

Why a Bigger Fed Balance Sheet Did Not Automatically Cause Inflation

Mussou distinguishes central-bank asset purchases from money circulating through the real economy. When banks redeposited proceeds at the Fed instead of lending them, money velocity and credit expansion remained weak, limiting inflationary pressure.

Asset purchases can suppress rates without expanding private lending.
Bank reserves do not automatically become circulating money.
Money velocity matters to inflation outcomes.
Fiscal spending may be more inflationary than balance-sheet expansion alone.

“It never created inflation.”
John Mussou · 29:11

“What it was not doing was lending the money out, So the velocity of money and the expansion of money that way was not happening.”
John Mussou · 29:41

#quantitative-easing#inflation#money-velocity#fiscal-policy

Hot Take· 2

Hot Take11:38

Small Bond Managers Can Exploit the Giants' Blind Spots

Mussou disputes the idea that BlackRock and Vanguard have entirely replaced traditional bond desks. Their scale makes smaller issues immaterial, creating opportunities for managers whose portfolios can benefit from overlooked local bonds.

Asset-management giants dominate portions of fixed income.
Small issues may be irrelevant to very large funds.
A modest bond issue can still materially help a smaller portfolio.
Scale creates blind spots as well as advantages.

“black Rock's not going to care about a twenty five million dollar water bond from Eastern Ohio some school district.”
John Mussou · 12:03

“So to the extent that they've gotten too big and a lot of issues aren't relevant to them, we can take advantage of that.”
John Mussou · 12:22

#asset-management#small-firms#bond-selection

Hot Take35:50

Millennial Family Formation Could Rekindle Inflation

Mussou identifies demographics as a possible source of future demand-driven inflation. The largest part of the millennial cohort was reaching family-formation age after delayed career starts, potentially releasing spending comparable to the baby-boom cycle.

The largest millennial cohort was entering its thirties.
The financial crisis delayed careers and household formation.
Family formation increases housing and consumer demand.
Millennials are a larger group than baby boomers.

“they will start to spend money on family formation and all the things the baby Boomers did, except maybe a little more delayed”
John Mussou · 36:13

“And if you look at the millennials as a group, they are bigger than the Baby boomers.”
John Mussou · 36:46

#millennials#demographics#inflation#consumer-spending

Explainer· 5

Explainer06:45

Convexity Is the Acceleration of Bond-Price Sensitivity

Duration estimates how much a bond's price changes for a given yield change. Convexity captures how quickly that duration itself changes, making it analogous to acceleration relative to speed.

Duration measures first-order price sensitivity.
Convexity measures changes in duration.
Call protection and bond structure affect total-return judgments.

“the convexity will tell you how fast that duration is changing. It's like the it's like the equivalent of acceleration to speed.”
John Mussou · 07:03

#convexity#duration#bond-math

Explainer08:38

Why Municipal Bonds Still Depend on Human Dealers

Corporate bond trading has become increasingly electronic and block-oriented, while municipal trading remains more relationship-driven. The fragmented municipal universe requires participants to know where particular bonds and actionable price levels are located.

Electronic trading is more prevalent in taxable bonds.
Municipal issuance is unusually fragmented.
Dealer relationships still help locate bonds and establish levels.
Only a fraction of available municipal bonds trade each day.

“The municipal bond market is still much more of a people business.”
John Mussou · 09:12

“So in the tax free side, only a fraction of the available bonds that are out there actually trade every day.”
John Mussou · 10:45

#municipal-bonds#electronic-trading#market-structure

Explainer25:07

The Durable Repayment Power Behind Municipal Bonds

Historical municipal payment interruptions did not always end in permanent losses. Mussou argues that essential-service monopolies can restore revenue, cure arrears, and resume debt payments after an extreme disruption.

Payment interruption is not identical to legal bankruptcy.
Most Depression-era municipal issuers eventually became current.
Essential-service providers retain durable revenue authority.
Recovery value depends on the continuing necessity of the service.

“And that's because of the monopolistic powers that municipalities have.”
John Mussou · 25:47

“almost all paid off their debt inter ears and got current on their debt and continue to pay.”
John Mussou · 25:35

#municipal-credit#great-depression#public-services

Explainer26:18

How the Fed Stabilized Bonds Before Buying Them

The Federal Reserve first supported short-term municipal instruments held by money-market funds, then established broader facilities through the Treasury. The credible ability to buy bonds improved confidence even before the facilities made purchases.

The Fed restored liquidity to short-term municipal instruments.
Facilities allowed money-market funds to exchange eligible bonds for cash.
The existence of purchasing authority changed expectations.
Short-term support also helped stabilize longer maturities.

“They haven't done it yet, just the fact that they established it was enough to really improve the bond market.”
John Mussou · 27:22

“So their first stop was to fix the short term bond market.”
John Mussou · 27:04

#federal-reserve#money-markets#municipal-bonds#policy

Explainer31:47

Negative Rates Work Until They Undermine the Banks

Investors accept a negative yield when they expect rates to become even more negative, making a small locked-in loss preferable to a larger one. Mussou argues that persistently negative rates weaken banks and that a steeper yield curve supports lending and economic recovery.

Expected rate direction can rationalize negative-yield purchases.
Negative rates damage bank profitability.
A steeper yield curve helps banks earn money.
Financially healthy banks are important to economic expansion.

“Losing half a percent is better than losing one percent, so you want to lock that in.”
John Mussou · 32:43

“you need a decent banking system and a banking system that's in financial health and can make money to get the economy movement”
John Mussou · 33:29

#negative-rates#yield-curve#banks#europe

Q&A· 1

Q&A22:10

Why Revenue Shortfalls Did Not Imply Mass Municipal Defaults

Mussou expected downgrades, reserve use, and thinner debt-service coverage after the pandemic shock, but not widespread defaults. Reserve funds, essential public functions, and probable federal or state support gave many issuers room to survive temporary revenue damage.

Many issuers maintain six to twelve months of debt-service reserves.
Credit downgrades can occur without default.
Essential infrastructure attracts political and financial support.
Bonds may trade cheaper even when eventual payment remains likely.

“We don't think you're gonna see massive defaults, especially if you come out of this within the next month or two.”
John Mussou · 22:44

“It doesn't stop bonds from trading cheaper.”
John Mussou · 23:41

#municipal-bonds#defaults#infrastructure#pandemic

Takeaway· 3

Takeaway04:15

Why Bond Prices Felt More Rational Than Stocks

Mussou explains why fixed income appealed to him after beginning as an equity analyst. Bond prices share directional relationships, but their different maturities and structures cause them to move at different velocities.

Bond analysis connects market prices directly to mathematics.
Bonds can move in the same direction at different speeds.
Accurate earnings forecasts do not guarantee accurate stock-price forecasts.

“I was excellent at predicting earnings and still couldn't figure out why I stopped might hit the earnings, but go down or go up, and…”
John Mussou · 04:45

“all bond prices more or less moved in the same direction, but none of them moved in the same velocity”
John Mussou · 04:27

#bonds#equities#career#valuation

Takeaway12:36

Individual Bonds Give Investors More Control Than Funds

Cumberland constructs portfolios from individual bonds to control yield, duration, and liquidity. Unlike a fund investor tied to one vehicle price, an individual-bond owner can choose which maturity or holding to sell when cash is required.

Individual securities allow targeted yield and duration choices.
Different maturities create multiple sources of liquidity.
Investors can avoid selling the most impaired holding.
Bond funds expose all shareholders to collective redemption behavior.

“I think individual bonds offers a much greater degree of flexibility.”
John Mussou · 13:48

“if you want a mutual funding, your subservient to one price and one price only”
John Mussou · 13:22

#bond-funds#portfolio-construction#liquidity

Takeaway38:53

Municipal Investors Can No Longer Ignore Global Capital Flows

Looking back on his career, Mussou says he underestimated how currencies and international capital movements would affect domestic municipal bonds. Modern fixed-income analysis therefore requires a global lens even when the securities themselves are local.

International flows influence domestic yields.
Currency changes can affect municipal-bond investors.
Local fixed-income markets are connected to global capital allocation.
Career-long assumptions must adapt as market structure changes.

“I wish I had known the importance of international flows and currencies.”
John Mussou · 39:04

“So the fact is that the change in the Chinese currency would affect municipal bond invest he would never occur to you. It definitely affects…”
John Mussou · 39:17

#capital-flows#currencies#municipal-bonds#global-markets