Lines In The Sand

On January 10^th, Big Bill Gross the Bond King, drew his line in the sand referencing the ten year treasury yield at 2.60%. If the ten year yield goes above 2.60% this year, said Big Bill, the bear bull market would be on and its effects on the stock market would be felt.

Now you tell us Bill. After a historic first half of 2016 which gave us the final throes of a mania in Bonds, we experienced  a historic sell-off in the second half with yields doubling from July to December in ten year yields. Indeed, the bear market for bonds has not only begun but, depending on maturity horizon, has been in place since 2012.

With the stock market continuing its version of the Bonds final mania, Big Bill probably also knows that nobody cares. Off his throne at PIMCO, Big Bill probably needed to reference stocks in his bond bear market call for relevance sake.

Until the mania in stocks ends, and like the long bull market in bonds, it will end, no one will probably care, or notice, the bond market. Investors in stocks are making money just by owning stocks, not by listening or following experts like Big Bill.

I do like how Big Bill drew his line in the sand at 2.60%. As we discussed last month, the first leg of the bond market sell-off had ultimately doubled rates from 1.32% in July to 2.64% in December. I believed that a correction was due and indeed ten year yield has pulled back to near 2.30% here on January 12^th. Whether we trade sideways from here or we see new lows in yields because I am completely off base, we will see in the coming months. But I believe Big Bill is correct: breaking back above 2.60% should tell us that the bond bear market is here to stay and significant financial market damage should occur.

The best news however is the mania for all things bonds is over. Municipal bond prices have weakened substantially with higher yields across all maturities. This weakness in municipal bond pricing together with a pick-up in volume has made the past several months quite fertile for finding worthwhile municipal bonds.

I believe it is important to realize almost all narratives associated with the status or future of the bond market are probably wrong. And if the story involves the word inflation then I believe the story is wrong and without merit.

Inflation, is a term of our past, not our future. The Federal Reserve has tried mightily to stoke inflation since the financial crisis. What better way to pay back the gargantuan debt issued before, during or since the crisis than by paying it back with cheaper dollars.

The Federal Reserve has failed because the economic theories we grew up with and thought we understood have indeed failed us. I do not believe inflation is a relevant concept at this point in our financial history. Talking about it, trying to measure it, or even fearing inflation will not bring it back into relevance. But if we didn’t talk about inflation, then we might not ever talk about bonds.

Bond prices are weaker and yields are higher…period. Not because of inflation, not because of a new wave of printing money or deficit spending or new growth or…you insert your favorite reason here. Bond prices are lower and yields are higher because, drum roll please, the new trend is for lower prices and higher yields.

Do I talk about this a lot? Absolutely and the reason is because the consequences of this new trend are devastating to the assumptions that have undergirded our financial markets for many, many decades. We are indeed early, but as more and more investors recognize the trend, it will feed upon itself. Meanwhile, we will continue to find those worthwhile municipal bonds for you.