Time to Refocus

Linda Williams gets the same question time and again: “What did the stock market do today?”

“I tell them I don’t really look at that,” says Williams, who is director of fixed-income investments for the Lowry Hill wealth management firm in Minneapolis. “I’m in the bond market.”

So there you have it. The stock market still gets most of the attention, at least from the general public. Following the daily ups and downs of the Dow Jones Industrials is a ritual etched into the business community’s subconscious.

Yet these days, the bond market and, more broadly, the debt markets taken as a whole, have become the center of the action. However, we know comparatively little about them.

Williams says the credit squeezes that began surfacing sporadically in the summer of 2007 have now settled in to the point where they drive the equity markets. Last fall, the stock market collapse came after—and largely because of—mind-boggling news that the federal government was taking over the giant mortgage companies Fannie Mae and Freddie Mac, and bailing out insurer AIG and financial services behemoth Citigroup. All four were drowning in debt.

“As the credit markets froze, that started huge problems for corporations,” Williams says. Financing became more difficult for them, expansion tougher, profits more elusive. So their stocks plunged.

Companies are still having a tough time getting loans. Maybe it’s time we paid closer attention to the causes of the current economic catastrophe: debt, debt, and more debt.

Equities: Why We Care

Equities habitually hog the limelight. Most of us have more stocks than bonds in our 401(k)s. We follow superstar stocks and love to watch up-and-coming underdogs. For many of us, our largest securities investment is in the stock of our own employer.

Besides being more familiar, it’s often much easier to understand equity than debt. If you own stock, you have equity in, or own a portion (however tiny) of, the company that issued the stock. If you hold equity, you risk losing it.

In contrast, debt carries with it the obligation to repay whatever was borrowed. Debt securities—bonds, notes, and commercial paper—all bind the issuing entity to pay back the holder of the security. Many companies turn to debt because it’s cheaper: Interest on debt is deductible for tax purposes and, because the risk is lower than with equities, borrowers will accept a lower return.