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> When inflation is just abnormally high (~8%), your debt doesn't get deflated to nothing, but you're getting a ~6% discount. That’s only true for fixed rate d
by helen___keller 4y ago
> When inflation is just abnormally high (~8%), your debt doesn't get deflated to nothing, but you're getting a ~6% discount.
That’s only true for fixed rate debt, which is common to think about for Americans due to the popularity of the 30 year fixed rate mortgage but in many countries ARMs are more popular or most popular.
In theory, fixed rate debt products should be priced in to reflect interest rate risk as well, so it’s hard to say the creditors are losers per se.
- lesam 4y agoCreditors definitely do lose money when they price debt at 2% but inflation runs at 7%. Talking about mortgages misses the larger fixed rate bond market (government and company long term debt).
- helen___keller 4y agoYes but what I’m saying is all fixed rate debt prices in interest rate risk. Any one creditor could be in a bad spot, but a creditor holding lots of fixed rate debt can / should be hedging against that risk. When we’re talking about institutions with billions of dollars (and not joe lending Bobby $20), I wouldn’t call them a loser unless they specifically failed to properly hedge their positions.
- lesam 4y agoHow would you hedge interest rate risk on trillions of dollars in US treasuries? Who takes the other side of that trade, and why? I don’t think that sort of hedge exists.
- onlyrealcuzzo 4y agoIsn't this the point of TIPS?
- helen___keller 4y agoI don’t really know what specifically you’re referring to. I’m not aware of anybody trying to hedge trillions in treasuries in one trade. I’m not aware of anybody even holding trillions in treasuries except maybe a few foreign countries. Hedging is done at the portfolio level using derivatives. This allows you to move your unwanted exposure to interest rate risk (or just about any kind of risk) to someone else in exchange for a premium. Whoever is taking that risk off your hands probably has a more diverse portfolio and wants the premium (ie their risk profile is different). In this manner, large fixed-rate creditors shouldn’t be largely exposed to rising interest rates, because they’ve been hedging that risk all along.
- geoduck14 4y agoThis makes me wonder if Fannie Mae and Freddie Mac have hedged all of the fixed rate mortgages they have lent money for.
- helen___keller 4y agoI don’t know about “all”, but Fannie and Freddie do indeed trade derivatives as part of risk management