Guest Post by Bob Hoye
Guest Post by Bob Hoye
Guest Post by Michael Ashton
Ten-year nominal rates continue to drift back towards the 2012 lows; the 10y Treasury yields only about 1.75% now. But 2015 is so very different than 2012 in terms of the cause of those low rates.
Nominal bonds are like the packaged sandwich you pick up at a gas station: no special orders. You get the meats in the proportions they were put on the sandwich; in the case of nominal bonds you get real yields plus inflation expectations and the nominal yield moves the same amount whether the cause is a change in real yields or a change in inflation expectations. If you buy nominal bonds because you think the economy is growing weak, and you’re right but at the same time inflation expectations rise, then you’re out of luck. You get what’s in the package.
If you look beyond the packaging, to what is making up that 10-year yield sandwich, then the difference between 2015 and 2012 is stark. When 10-year nominal yields were at 1.50% back in 2012, 10-year real yields were at -0.90% and 10-year inflation expectations were around 2.40%. The bond market was pricing in egregiously weak real growth for the next decade, coupled with fairly reasonable inflation expectations. TIPS were clearly expensive at the time, although I argued that they were less expensive than nominal bonds. (In fact, I may have said that they were expensive to everything except nominal bonds).
Today, on the other hand, nominal yields are low for a different reason. TIPS yields, while low, are positive (10-year real yields are 0.13% as I write this) but inflation expectations are very low. So, in contrast to the circumstance in 2012, we see TIPS as very cheap, rather than rich.
One way to look at this difference in circumstance is to study how the proportions of meats in the sandwich have changed over time. The chart below (source: Enduring Investments) shows the percentage of the nominal yield that is made up of real yields. The percentage which is made up of inflation expectations is approximately 100% minus this number, so one chart suffices. Back in “normal times,” real yields tended to make up 40-50% of nominal yields.
When I saw the headline below I thought the writer may have been referring to spring of 2011, when Bill Gross seemed to single-handedly end the commodity and ‘inflation’ bull market with his call to short the Long Bond (which is another way of saying he called for long-term yields to break out). That was all baseless hysteria, as our continuum chart clearly shows. Just another red arrow.
We called the Gross stuff hype in 2011 and for good measure we called the most recent red arrow from 1 year ago hype as well. “Great Rotation” anyone? The longer I participate in the markets the more amazed I am at this stuff, and the media behind it all, promoting hair brained ideas on a daily basis.
“The good times are over”. In fairness, I am not nearly disagreeing with him, but I am noting a broken clock thing here.
The writer highlights Gross’ current call against stocks but also mentions 2011’s bond market call. So good job Mark Decambre. He’s done his homework and though he is polite, Mr. Decambre makes a slight inference that Gross may be playing contrary indicator yet again.
Gross has become a cartoon character in my book, and it culminated as the rock star manager was hired away from PIMCO by Janus. Or was it all the unquestioning followers of Gross that Janus actually hired? Whatever, silly markets, silly goings on as usual.
A technical snapshot of key ETF’s…
GLD has bounced from critical support (equiv. of gold 1180). MACD triggered up is positive.
Guest Post by Chris Hunter
Here’s a chart showing the yield on the 30-year US Treasury bond going back 20 years.
As you can see, it’s been a steady decline – albeit with some big swings starting around the time of the 2008 crisis.
Mean reversion – which means that periods of relatively good performance tend to be followed by periods of relatively bad performance – suggests that Treasury bonds could be approaching a long-term secular bear market. (Yields move in the opposite direction to bond prices.)