How should American savers respond to low interest rates? One might expect the answer to be simple: just invest in stocks instead of bonds or savings accounts. And indeed, a young saver not only can heed that advice but likely doesn’t even need it, with Target Date Funds for younger savers automatically allocating their assets nearly entirely into stocks/equity investments. And, thinking further back, the ready availability of mutual funds, ETFs, online brokers, etc., both for individual saving and through retirement accounts, provide unprecedented access to equity investing in a way that had not been the case for prior generations. In 1980, only 6% of US households owned a mutual fund, compared to a fairly steady nearly-half of all households since 2000.
But that’s an incomplete answer. As we age, experts advise us to shift our investments over time, with less in equities and more in bonds, or to use Target Date Funds with a “glidepath” which do the math to automatically adjust asset allocation. For example, Vanguard Target Date Mutual Funds start shifting assets at age 40, from 90% equity to only 30% equity at age 72, with the remainder mostly in U.S. corporate bonds, and smaller portions in international bonds and inflation-adjusted government bonds.
So, yes, when journalists report about potential increases in interest rates as bad news, they fail to recognize the very real impact that the historically low interest rates have on older savers and retirees trying to make sure their savings lasts for their lifetime.
Which brings me to Mrs. Watanabe.
“Everyone’s mother or auntie seems to be at it. With short-term interest rates virtually nil and bonds yielding not much more, Mrs Watanabe, the ubiquitous Japanese housewife who controls the family finances, has been getting more daring in her investment habits.”
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In the late 90s, the metaphorical Mrs. Watanabe invested in high-risk, high-interest bonds, issued in Japan in yen by foreigners, so-called “samurai bonds.” These bond issuers were not interested in raising money in yen, specifically, but instead issued them in Japan “because Japanese investors are willing to accept much lower yields than are their foreign counterparts.”
In the early 2000s, as bond rates continued to decline, “scores of Japanese women” (or actually middle-aged Japanese men, based on a 2015 survey) shifted to currency trading, and earned “a cult status across the world,” so much so that the Bank of Japan credited “the trading activity by housewives [with] stabiliz[ing] currency markets as they bought on dips and sold into rallies.” As reported in 2019, “Individuals generally make one transaction per day, using margin accounts to leverage modest deposits of about 100,000 yen (NZ$1483) into wagers worth 10 times that amount, said Takuya Kanda, general manager of the Gaitame.Com Research Institute, part of the country’s leading internet platform for retail investors.” Later, according to Reuters, traders in Japan as well as South Korean retirees turned to bitcoin with those same hopes of overcoming low interest rates from traditional investments.
And that brings us to the present, or, rather, a Financial Times article from almost exactly a year ago, “What Mrs Watanabe can tell us about how to handle low returns.” Observing the ultra-low interest rates in bond markets across the developed world, the authors speculate that ordinary investors in those countries now experiencing similarly-low rates will respond in the same way:
“Japanese household investments have propelled at least two peaks in the yen carry trade — borrowing at low rates to invest in higher-yielding currencies or assets overseas. This has taken Mrs Watanabe into the currencies of Brazil and Turkey and later to Australia.
“The key question is the extent to which global capital flows could also be buffeted by a notional Frau Muller, Mme Dubois or Signora Rossi. Or even, if ultra-low rates become entrenched in the US, Ms Johnson.”
But, again, let’s go back to the retirees and near-retirees who, according to the experts, out to have the largest share of their retirement savings invested in bonds and other low-risk investments. As of October, highly-rated long-term corporate bonds yield 2.7% — that’s considerably less than inflation. Shorter-term bonds yield less. Inflation-protected government bonds have had a negative (real/inflation-adjusted) return since the pandemic, but hovered at near zero even before then, since August of 2019; they’re now at about -1.%.
And the stock market? The S&P 500 had a very dramatic crash in March of 2020, to be sure, but is now 40% higher than that pre-pandemic high, and double its low point. The fundamental concepts of investing are based on balancing risk and return — but is our government’s policy, monetary and otherwise, by driving down lower-risk returns, trapping older investors into abandoning the advice meted out to them and obliging them to stay invested in risky assets? And to what extent is this artificially keeping the stock market high?
In this respect, the difference between Mrs. Watanabe and Mr. Smith is a simple one: American households have a greater ability and willingness to invest in the stock market, compared to Japanese households, who are far more likely to keep their assets in cash, even though, as Bloomberg reported earlier this year, brokerages are making new attempts to interest young adults, and, as S&P Global Market Intelligence reported, the Japanese government is planning to “woo more foreign asset managers [to] help broaden the range of investment products and improve the returns.”
In fact, in the Bank of Japan’s most recent analysis, 54% of assets held by Japanese households were in the form of currency and bank deposits, compared to 34% in the Eurozone and a mere 13% in the US. And that difference may yet be understated, as the calculation methodology includes in the total insurance reserves, pensions, and retirement savings, three sorts of funds which are in some sense “owned” by individuals but lack the ability for the individual to make investment decisions; factoring these out (which then becomes an overstatement by incorrectly including American 401(k) plans where savers make their own choices), and the Japanese hold 78% of their financial assets in currency/bank accounts, compared to 54% in Europe and 17% in the U.S.
What’s this mean? It might be convenient to say that Americans are more savvy by taking advantage of higher returns in the stock market — but how many financial experts will, if/when the market crashes, simply scold older investors who quite reasonably felt they had no choice but to stay in the stock market? There are no easy answers, but the effect of seemingly-permanent low interest rates on older savers cannot be ignored.
As always, you’re invited to comment at JaneTheActuary.com!