What Are Bonds Saying Again?
Every now and then I like to muse about the bond market. It's cut and dry about the action they see, the economy and markets teeter back and forth. Bond traders are the most paranoid of them all, frightened of price inflation which erodes bond values...quickly. Yields have come down sharply of late, and with every move there is a story, which can/does change in a moments notice. However, a longer trend tells a longer term tale, and we need to take heed to the message.
Supply...Perhaps the Treasury is Going to Hold Off
I've been thinking about this for awhile now. When will the Government stop issuing new treasury bonds? We've seen tons of supply come to market this year, and it makes sense, right? How else is the government going to pay for the bailouts, stimulus and the coming healthcare program? However, price action dictates demand AND supply, and there is certainly a demand for treasuries. Ten year yields are 3.3%, and it's not all the Fed buying in. Could the asset allocation shift be on? Possibly, but it's not out of stocks...at least not yet. Out of cash and into bonds? Quite certain, as what is cash earning? Nada, zilch.
Inflation? Not According to the Bond Market...Deflation? Most Certainly
We all know that inflation is bad for bonds, as a rising yield erodes prices. Inflation takes some stiff medicine to get it under control. We saw some difficult decisions made during the last bout of inflation, with rates taken up to near 20%. That served to be the top of rates as the bond market has effectively been on a bull ride for about 28 years now. Rates have not exceeded 7% except for some brief moments. Basically, the Fed has done a good job keeping inflation contained, and even now that is the case. However, the other demon...deflation...is great cause for concern. That was the main reason for opening the floodgates of liquidity last year, as Bernanke...with his great knowledge of the 1920's depression...felt it was necessary to fuel the economy.
Long Term Treasuries for Safety
Stocks have had a huge run since mid March, enough of a return for several years running. Perhaps this is enough. Maybe the safety of treasury bonds is a bit more attractive at this point in time. After all, with earnings season upcoming there is some risk that stocks are ahead of themselves. Cash is a good alternative, however why stay in cash when you can at least earn some income with bonds, that is if you don't want to be in stocks.
Many have been saying inflation is an inevitability, with so much money chasing to few goods. But until the price action shows its hand and yields start to rise, then I'm not a believer just yet. Even a low interest rate environment is good for stocks. In fact, the March rally in stocks started when rates were what? Under 3%....so, we'll see how it materializes. My bet is on a stable bond market, unless something earth-shattering occurs.
Disclosure: Long TLT, TBT, TNX