Bonds

Standard Oil of New Jersey last week borrowed $85,000,000 for a period of 25 years. The money will be used to retire an issue of 5% preferred stock of a subsidiary called Standard Oil Export Corp. (TIME, May 18). Only $30,000,000 worth of Standard's new bonds were offered to the public, the rest having been bought by various Rockefeller interests including the Spelman Fund, the Rockefeller Foundation and the China Medical Board. But the most notable fact about this notable financing was that Standard borrowed the money at the lowest interest rate ever paid for long-term funds by any industrial corporation in the U.S. --little more than 3%,

Even Secretary of the Treasury Morgenthau did not really better Standard's figure when he announced the terms of the Government's June financing a few days later. Upping the national debt to a new high ($32,750,000,000), Secretary Morgenthau offered $2,050,754,400 in new securities--largest Treasury operation since the 1919 Victory Liberty Loan. One-half represented exchange offers for obligations maturing in the next few months, the rest an offering for cash, largely to pay the Bonus. Reflecting the new popularity of long-term Governments, the cash offer was divided into $400,000,000 of 3/8five-year notes, $600,000,000 in 15-to-18-year bonds with a 2 3/4|% coupon--both record low rates for those maturities. The Treasury's apparent edge on Standard's interest rate was accounted for by the fact that Government bonds are tax free. With income taxes what they are, the net yield on Standard's bonds to a big corporate investor is only about 2.65%. What makes Standard's bonds so desirable is that there are relatively few bonds of big super-solvent industrial corporations on the market. Big institutional investors snap them up to keep their portfolios diversified.

High though it is, Standard's credit has little to do with the company's ability to borrow money at 3%. Bonds like Standard's are called "money bonds," meaning that the price and yield are determined by the state of the money market, not by the state of the borrower's credit. Government bonds are the best example of money bonds. Typical corporate money bonds are Atchison, Topeka & Santa Fe Ry. general mortgage 4s of 1995, now selling at 114; Chesapeake & Ohio general mortgage 4 1/2's of 1992, selling at 125; Consolidated Gas of Baltimore general mortgage 4 1/2s of 1954, selling at 123; Bell Telephone of Pennsylvania first & refunding mortgage 5's of 1948 selling at 120. All these issues sold below par at some time during Depression. Atchison general 4's, a savings bank favorite, sold as low as 75. Yet today some of them yield less than 3%, none so much as 3 1/2%.

Never before have bond prices been so high, bond yields so low. The previous high was around 1900, when high-grade issues sold to yield something less than 4%. At that time the best opinion was that low interest rates would continue for the first two decades of the 20th Century. The experts were dead wrong. Interest rates rose and bond prices fell almost without interruption until the post-War depression. Through most of the 1920's bonds climbed steadily, then started to fall again when money tightened during the last purple days of the stockmarket boom. The present rise dates from 1932, bonds as usual leading actual industrial recovery by a wide margin.

What has kept bonds booming ever since has been progressively lower interest rates. At first interest rates declined because there was less demand from businessmen for money, a normal depression phenomenon. Since the New Deal, however, the Treasury and the Federal Reserve Board, working in close harmony, have borne down on the money market with every available credit control, chiefly those whose manipulation tends to build up big bank reserves. One purpose of this easy money policy was to make private borrowing cheap, the hoary formula for reviving depressed business. So far U. S. businessmen have done little new borrowing, though they have taken advantage of the cheap money to refund billions of old securities at lower rates.*

Another and more important reason for the Administration's easy money policy was to make Government borrowing cheap. Secretary Morgenthau is raising long-term money for 2 3/4%. His short-term financing is done at such low cost that it is actually cheaper than it would be to print and distribute greenback currency. Meantime, commercial bankers have had a curious change of heart about Government bonds. Instead of predicting the imminent collapse of Government credit through New Deal spending, they are now buying long-term Treasury issues as fast as they can. Government bonds have been pushed to record highs and the bankers are convinced that they will stay there, if not go higher. Some people are even talking of the day when the cautious investor will have to be satisfied with a 2% return on his money.

A number of professional economists are seriously alarmed by what they consider an inflated bond market. At a meeting of the New York chapter of the American Statistical Association last fortnight no less than three went on record with loud warnings. Said Columbia University's Leland Rex Robinson: "Now hardly seems the time to pay high premiums for bonds. . . . The higher the grade of bond the greater the speculation in buying it now. It is difficult to see how the artificially low interest rates and bond yields . . . can much longer continue."

Economist Lionel Danforth Edie: "My guess is that the bottom of the low money rate cycle ... is right now--I mean in 1936, and the middle of 1936. . . . The high-grade bond market is inflated and inflated relatively more than the stock market was in 1929 and it is just as vulnerable to a very sharp move the other way for similar reasons."

Economist Frederick Robertson Macaulay: "The bond market has reached such high levels it may eventually even be necessary artificially to bolster the prices of Government securities if the condition of the banks is not to be the factor that will lead, some years hence, to another general collapse."

Best answer to these warnings is that whatever Administration is in power for the next few years will use its best efforts to keep money cheap. And this argument is used by both commercial bankers, who are buying Government bonds because they can find no other outlet for their funds, and by investment bankers, who would like to see a cheap money era prolonged because it makes for a good bond market. Long periods of cheap money are not unprecedented. For 23 years from 1886 to 1909 British Government consols, a taxable security, never sold to yield more than 3%.

Institutions which buy bonds with the idea of holding them to maturity would not suffer from lower prices. The suckers would be those who bought at high levels and who decided to sell during a national boom, when interest rates are generally high, bond prices low. Investment bankers are thinking about that type of investor already. Fortnight ago in Manhattan, Kuhn, Loeb & Co.'s Hugh Knowlton wound up a speech to the Financial Advertisers with a highly logical argument for future use. This smart, sharp-nosed young banker, who was trained in the law and got into finance by way of Paul Warburg's International Acceptance Bank, declared:

"It is no fault of the investment banker if, due to the fact that a bond was brought out at a time when bond prices generally were very high, as is the case at present, the market price at some time during the life of the security declines. . . . The banker does not make prices. Nor is the banker responsible for the high level at which investment securities are selling today. The Government itself, by the various ways in which it is contributing toward easy money, is one of the responsible factors, and when subsequently prices drop--as they are bound to do-- and the politicians blame the bankers--as they always do--it will be well to remember this fact."

--Low interest rates have been a boon to financing companies, which borrow, chiefly from banks, a large part of the funds used to carry installment purchases of automobiles, radios, refrigerators, etc., etc. For this borrowed money the financing companies are now paying 1% or less. When they loan it to a time buyer, they get from 12% to 25%. That spread is by no means all clear profit, for installment paper means high overhead. Nevertheless, favored still further by a tremendous pickup in the volume of installment buying, financing companies are reporting record high earnings. Last month Commercial Investment Trust Corp. upped its dividend, declared a 20% stock dividend. Last week its traditional rival, Commercial Credit Co., also upped its dividend (from $2.50 to $3 per share), also declared a 20% stock dividend.

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