Bond Market Expecting Outright Depression

If equities have priced in a long, deep recession, the bond market seems to be expecting an outright depression. Despite the promise of trillion-dollar Federal budget deficits and debt monetization (i.e. “quantitative easing”) by the Fed, the 10-year Treasury is 2.75%, the lowest level in half a century.

Five-year inflation protected Treasuries (TIPs) are yielding more than nominal five-year Treasuries, suggesting that Treasury investors expect negative CPI inflation over the next five years!

Fears of default and lack of market liquidity have pushed spreads on municipal and corporate bonds to levels not seen since the Great Depression. AAA rated 30-year municipal bonds are yielding 5.47% at present, which works out to a taxable equivalent yield of 7.6% for a taxable investor in a 28% tax bracket. This is 240% of the current 3.14% yield on 30-year Treasury bonds. Junk bond yields and spreads to Treasuries have never been as high as they are today. It appears that the only remaining bubble in the markets is in Treasuries.

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Comments

[prudentinve...:]

Yes, the disconnect between the stock and bond markets is disconcerting.

2008 Dec 15 08:29 AM

[mavericks:]

You know what's really a disconnect? Some technology stocks are yielding MORE than 10-year treasury bonds!! Were not talking utilities or telecom. Intel yields 3.8%...not on its preferred or convertibles...on its COMMON stock. Microsoft is not far behind. Now THATS incredible!!

2008 Dec 15 09:17 AM

[searcher:]

Many who fear eventual rampant inflation once a 'depression' is averted yet have been traumatized by the fall in equities, including those which would benefit by inflation, must be tempted to become bond 'timers'. Can they exit 'safe' non-inflation treasuries in time, or should they go with TIPs.

Alternatively, can they go with all time high yielding non-commodity based equities? Will declining earnings gut the dividends?

2008 Dec 15 02:43 PM

[Hedged In:]

Excellent data here on relative bond yields. Steinhilber is a must-read.

2008 Dec 15 05:51 PM