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Are the Bonds Smarter?
The US bond market is 2x bigger
(counting the value of all US bonds), and, there are less idiots
running around. Since most bonds trade over the counter—obviously
we have the Tbond futes—you better know what you are doing.
Basically, it's a pro's game, whether the pros are worth their salt,
it is another story.
I have to point out that 10-year Treasury
yields bottomed well in advance of the S&P 500 and they seem to
be topping out of late. On the latest levitation in stocks that begun
in July, we have a situation where Treasury bonds also rallied
pushing yields lower. As another ZH contributor observed, one of
those two is wrong.
When in doubt always go with the bond
market. Spreads between riskier bonds and Treasuries begun to notably
narrow since December. Even though they widened some by March, they
did not widen as much as they did last year. At one point earlier in
the year we had narrowing junk bond spreads (the junkier the better)
and a falling stock market. This is one of the reasons I did not
believe that last leg of the selloff in stocks, although those last
200 SPX points to the downside did come pretty fast. This is what
happens when you have to sell and there are no buyers.
Right now the situation seems
irrational in the other direction—not complaining, I know markets
are irrational by definition—and I believe we are setting up for a
nasty disappointment after the inventory rebound in the economy is
over. The bonds seem to be suggesting that...
I don't think you will be able to rationalize a sub-3% 10-year yield
as a green shoot.
EDIT: Another good post if you missed it.
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I apologize in advance for bringing in the pudrid bile of poo that is CNBC into the discussion but here's something to ponder:
Rick Santelli: bond market
Bob Pisani: stock market
Which one of these fellas do you trust to be right?
I have yet to see or hear Pisani sing any other tune than the company song. Rick is often totally disgusted with what he's seeing on a daily basis and has said so often.
Friday he was at it again, arguing with CNBC's own guests. You gotta love it.
My vote goes to Rick hands down.
Persoanlly I think the only reason they keep him on CNBC is to portray him as a cranky old fool for Kudlow and company to chuckle over.
Even though Rick occasionally speaks his mind, he has that fake smile on his face like someone has their hand up his ass pulling the smile string. Did you see his stint as the Fast Money's Melissa Lee for a day? Wow! Was he bad. I certainly trust him more than most of the talking heads, but if there is really so much cognitive dissonance, why doesn't he just quit? I don't know what to think, in truth, about Mr. Santelli. I want to think he's a good guy, but sometimes I wonder.
In an interview with Morgan Stanley when I got out of B school I was told I was too smart for the equity markets. "The brains are on the bond desks, that's where you should be". And so it was.
I have spent a few weeks thinking about this, and with QE and the money being thrown into the market by QE I wonder the validity of the signals. the 10 year is now where the S&P was at 880 or so.
QE has changed the game. As a professional stock trader i go with Bond signals every time but the relationship of the devalued dollar and higher commodity prices is the new twist. Look at a chart of UST yields from mid 80s - suggests deflationary forces at work. Overlap the dollar. It rose until Tech blow up in 2000. Overlap Gold. You see the picture.....
The devalued greenback has been propping up risk assets for 10 years , Bonds show there is no inflation in the US economy apart from the kind generated by energy prices. Anglo-Saxon Govns WANT to import this inflation.
Theyre going to bomb the greenback until the bond mkt tells them they cant.
Im afraid the bond market is wrong right now but that is largely because it doesnt see an alternative...... alternative safe havens are too small for the Worlds savings.... we are in catch 22 investing.. no one should have an investment strat for longer than 2-3 years now as the boom/bust cycle is on steroids. Lots more volatility ahead. Safest trade is to split a portfolio equally into thirds : cash , gold , stocks unless youre goldmans and know the timing of the game.
The hypothetical question of the day is: "How much quantitative easing could be introduced into the market before a bond rebellion would usurp attempts at further liquidity injection(s)?"
The world likes the dollar as a store of value, and, golly, that's a powerful thing. Anecdotally, China Investment Corp. (China's sovereign fund, ~$250B) bases it's book on the dollar.
One will have to monitor how earnings are (or can be) sustained as TAF eases, the Treasury portion of QE winds down, MMMF Liquidity ends October 31st, etcetera, etcetera.
Will 0.25% Feds Fund Rate be enough on it's own come Springtime? Will a peeved girlfriend named 'Reality' slap us a good one soon?
"the 10 year is now where the S&P was at 880 or so."
Interesting that you mention spx 880 as that seems to be the number floated around as "fair value" on spx of late. I've read it a few places...I think Art Cashin said it as well.
I'm probably wrong, but I got fair value less than 880, though I understand that even if the market is wrong, it is right.
I got it at about... Half of that.
Because that's what it will take for a PE of ~7-8.
I could be wrong.
Value is subjective, but way I look at things, you are wrong: a PE of 8 on trailing 12 month earnings through 6.30.09 ($9) is 72. Want to be more generous and eliminate the -23 in Q4 and assume Q1 09 is the new normal? That's $30 per year, so 240 is your magic number.
A short stretch of earnings is crappy as a measure of value though. Helps to add dividends. Those were about 5.50 a share in Q2, $22 a year. I'd say you can start to talk about value at a 6% yield, though secular bears can reach 15% yields. 6% is about 365; 8% is 275.
And that assumes dividends don't keep falling -- they're only down about 20% so far, though earnings seem to be off 30-60%.
Doesn't your analysis assume that the only factor affecting bond yields is the demand for US debt? I submit to you that both markets are "wrong". The stock market is discounting a recovery in earnings that will not exist, and the bond market is assuming that there is no default risk on the part of the US. Both of these assumptions, I believe, will be invalidated.
I am still working on learning the dumb stuff.
Well, investing in bonds rarely returns much over inflation and expenses. It is marginally better than having a savings account and some sort of put or call on big inflation. If you buy and hold, you can watch your portfolio plummet if you bought in low inflation and hold through high inflation.
If you buy a stock, it earns money. It grows and makes money. You get back some of that money each year as a dividend, and when you need a lot of money, you sell the stock and pay c. gains tax at that time. Stocks are great. Earning money is great. Because it is so great, stocks are overpriced, much more likely to be cheats, and much more susceptible to churning.
Get some good stocks, selling products you understand, with good managers. Hold on to them like Warren Buffett. Live a frugal life and don't fall for sales pitches. Use DRIP, and avoid mutual funds at all cost.
There. I said it. Thank me very much.
Anon, you might want to read this:
http://www.ritholtz.com/blog/2009/03/why-bother-with-bonds/
Buy a good stock. When it goes up, sell it. If it doesn't go up, don't buy it.
I would say so
good articles; good articles 4 slow news day ..http://www..
hat tip: finance news & finance opinions
you could argue that some of the QE money is not only supporting the equity market, but also the bond market and therefore the gap is not an entirely reliable indicator. In fact while some money if supporting equity speculation a.k.a very high frequency trading on etf and indices, some is going in the bond market as positive curve carry trade.
Also lately the correlation between POMO days and WTF move on indices in the last hour was not as strong at it has been.
Regarding the bond guys been very clever, I can personally assure all of you that in a professional capacity I have dealt with many really stupid bond traders, but then I have not dealt with many equity traders so I wont really know the difference
Rari Nantes In Gurgite Vasto ( I forgot my password:-) talking of smart people............I am just tricking myself to keep solving the math question!
"...there are less idiots running around."
Succinctly spoken and so true.
Thank you for the nice article on bonds Andy. Good chart as well.
Andy,
Another interesting chart is the spreads between US/UK debt, particularly in the 10Y sector. The spreads between those yields is almost non-existent and in some periods have become inverted. The past couple weeks, the same pair in the 5Y sector went from +40bps to ~20 bps. It's worth some investigating if you're into that type of stuff.
-lc
The Perpetual Motion Machine is in action.
Trouble with the economy? No problem.
Stocks will fall, and money instantly flees to U.S. Treasuries.
Interest rates are driven down to absurd levels, enabling "speculators" to borrow on the cheap, Alt-A mortgages to be refinanced at 45-year lows, and grandma gets even more frustrated earning 30 basis points on her money market funds.
Ergo, money eventually is chased out of safe assets, and is Riverboated into stocks.
Funny how fearful stock market investors will keep a lid on rising interest rates.
And frustrated savers will keep a floor on stock prices.
Round and round we go...........
Stuck in this 8000 - 9500 trading range forever.
Never underestimate the gambling fervor of the elderly, when they see AIG go up 200% in a week while they are earning a paltry .31% in their savings account.
AD, Something is going to give with graph. It will be fun to watch.
Your post has the stupid HTML stuff at the top. I hate that. I can't stop it either. I do not know where it comes from.
My (terrible) solution is to post on a blog page then copy and past in. We need to go HTML school. Maybe Marla could clue us in.
good post.
bk
Good article. I also think bonds are right.
Very good post. Rick is a exception in this deadly market and given that the hedge funds from Harvard ect... learned that unwinding is very painfull as I read and are now a click away from moving capital.
YTM for HG corporate is so frig. low right now; i wouldn't say that particular asset class is that much more attractive than ... IWD. )rofl(
Any meaningful rise in the interest rate and those 3 % YTM HG will kill yo.
p.s. think i am having a de javu, typed the above once before...
Good article, I agree bonds are right.
Thanks AD
Its not, this wierd thing happend when i converted my pic to a drawing. But thanks
hahaha I doubt anyones going to recognise me on the street from here somehow.
Lenders are much smarter,when allowed to be.
BIS June 2009
Statistical Annex
The international banking market
The BIS international financial statistics summary tables ....................................
TAB 3B (quiet compact stocks of debts governments and financials)
IMF Working Paper
Fiscal Affairs Department
How Effective is Fiscal Policy Response in Systemic Banking Crises?
Prepared by Emanuele Baldacci, Sanjeev Gupta, and Carlos Mulas-Granados*
July 2009
Abstract
Consistent with previous studies, we also find that banking crises generate large economic
costs. Peak-to-trough figures show that the average GDP growth rate fell by more than
5 percentage points during the crisis, 14 general government debt increased by 39 percentage
points of GDP and the budget deficits increased by 6.9 percentage points of GDP (see
Figure 2)
INTERNATIONAL MONETARY FUND
The State of Public Finances:
Outlook and Medium-Term Policies After the 2008 Crisis
Prepared by the Fiscal Affairs Department
In cooperation with other departments
Approved by Carlo Cottarelli
March 6, 2009
TAB 1 Headline Support for the Financial Sector and Upfront Financing Need
(As of February 18, 2009; in percent of GDP
P22 Figure 3. Outlook for Public Finances in the G-20 1/
(In percent of GDP)
P24 Figure 5. G-20 Advanced Economies: Evolution of Government Debt
Something has to give in
AD- Tks for the tip I will try it. I learn something every day....
I think I figured out the bond market. I think it was figured out in '30's too.
http://www.youtube.com/watch?v=4AJsHZztt14&feature=related
There's something going on between the FED and the people using the discount window. Something not kosher at all.
AD, good post, but remember J.M. Keynes' famous words: "Markets can stay irrational longer than you can stay solvent."
cheers,
Leo
Andy...i found the woman of your dreams for you.
http://www.washingtonpost.com/wp-dyn/content/article/2009/08/30/AR2009083002473.html?hpid=artslot
Yeah no way I can compete with that. I can't "see" the future, even if somedays I think I can :)
Who's shaking her magic 8 balls?