Hoisington: 30Y Treasury Bonds Are Undervalued

Tyler Durden's picture

Via Hoisington Investment Management,

Hoisington Investment Management – Quarterly Review and Outlook, Second Quarter 2014

Treasury Bonds Undervalued

Thirty-year treasury bonds appear to be undervalued based on the tepid growth rate of the U.S. economy. The past four quarters have recorded a nominal “top-line” GDP expansion of only 2.9%, while the bond yield remains close to 3.4%. Knut Wicksell (1851-1926) noted that the natural rate of interest, a level that does not tend to slow or accelerate economic activity, should approximate the growth rate of nominal GDP. Interest rates higher than the top-line growth rate of the economy, which is the case today, would mean that resources from the income stream of the economy would be required to pay for the higher rate of interest, thus slowing the economy. Wicksell preferred to use, not a risk free rate of interest such as thirty-year treasury bonds, but a business rate of interest such as BAA corporates.

As chart one attests, interest rates below nominal GDP growth helps to accelerate economic activity and vice versa. Currently the higher interest rates are retarding economic growth, suggesting the next move in interest rates is lower.

To put the 2.9% change in nominal GDP over the past four quarters in perspective, it is below the entry point of any post-war recession. Even adjusting for inflation the average four-quarter growth rate in real GDP for this recovery is 1.8%, well below the 4.2% average in all of the previous post-war expansions.

Fisher's Equation of Exchange

Slow nominal growth is not surprising to those who recall the American economist Irving Fisher’s (1867-1947) equation of exchange that was formulated in 1911. Fisher stated that nominal GDP is equal to money (M) times its turnover or velocity (V), i.e., GDP=M*V. Twelve months ago money (M) was expanding about 7%, and velocity (V) was declining at about a 4% annual rate. If you assume that those trends would remain in place then nominal GDP should have expanded at about 3% over the ensuing twelve months, which is exactly what occurred. Projecting further into 2014, the evidence of a continual lackluster expansion is clear. At the end of June money was expanding at slightly above a 6% annual rate, while velocity has been declining around 3%. Thus, Fisher’s formula suggests that another twelve months of a 3% nominal growth rate is more likely than not. With inflation widely expected to rise in the 1.5% to 2.0% range, arithmetic suggests that real GDP in 2014 will expand between 1.0% and 1.5% versus the average output level of 2013. This rate of expansion will translate into a year-over-year growth rate of around 1% by the fourth quarter of 2014. This is akin to pre-recessionary conditions.

An Alternative View of Debt

The perplexing fact is that the growth rate of the economy continues to erode despite six years of cumulative deficits totaling $6.27 trillion and the Federal Reserve’s quantitative easing policy which added net $3.63 trillion of treasury and agency securities to their portfolio. Many would assume that such stimulus would be associated with a booming economic environment, not a slowing one.

Readers of our letters are familiar with our long-standing assessment that the cause of slower growth is the overly indebted economy with too much non-productive debt. Rather than repairing its balance sheet by reducing debt, the U.S. economy is starting to increase its leverage. Total debt rose to 349.3% of GDP in the first quarter, up from 343.7% in the third quarter of 2013.

It is possible to cast an increase in debt in positive terms since it suggests that banks and other financial intermediaries are now confident and are lowering credit standards for automobiles, home equity, credit cards and other types of loans. Indeed, the economy gets a temporary boost when participants become more indebted. This conclusion was the essence of the pioneering work by Eugen von Böhm-Bawerk (1851-1914) and Irving Fisher which stated that debt is an increase in current spending (economic expansion) followed by a decline in future spending (economic contraction).

In concert with this view, but pinpointing the negative aspect of debt, contemporary economic research has corroborated the views of Hyman Minsky (1919-1996) and Charles Kindleberger (1910-2003) that debt slows economic growth at higher levels when it is skewed toward the type of borrowing that will not create an income stream sufficient to repay principal and interest.

Scholarly studies using very sophisticated analytical procedures conducted in the U.S. and abroad document the deleterious effects of high debt ratios. However, the use of a balance sheet measure can be criticized in two ways. First, income plays a secondary role, and second, debt ratios are not an integral part of Keynesian economic theory.

We address these two objections by connecting the personal saving rate (PSR) which is at the core of Keynesian economic analysis, and the private debt to GDP ratio that emerges from non-Keynesian approaches. Our research indicates that both the “Non-Keynesian” private debt to GDP ratios, as well as the “Keynesian” PSR, yield equivalent analytical conclusions.

The Personal Saving Rate (PSR) and the Private Debt Linkage

The PSR and the private debt to GDP ratio should be negatively correlated over time. When the PSR rises, consumer income exceeds outlays and taxes. This means that the consumer has the funds to either acquire assets or pay down debt, thus closely linking the balance sheet and income statement. When the PSR (income statement measure) rises, savings (balance sheet measure) increases unless debt (also a balance sheet measure) declines, thus the gap between the Keynesian income statement focus and the non-Keynesian debt ratio focus is bridged.

The PSR and private debt to GDP ratio are, indeed, negatively correlated (Chart 2). The correlation should not, however, be perfect since the corporate sector is included in the private debt to GDP ratio while the PSR measures just the household sector. We used the total private sector debt ratio because the household data was not available in the years leading up to the Great Depression.

The most important conceptual point concerning the divergence of these two series relates to the matter of the forgiveness of debt by the financial sector, which will lower the private debt to GDP ratio but will not raise the PSR. The private debt to GDP ratio fell sharply from the end of the recession in mid-2009 until the fourth quarter of 2013, temporarily converging with a decline in the saving rate. As such, much of the perceived improvement in the consumer sector’s financial condition occurred from the efforts of others. The private debt to GDP ratio in the first quarter of 2014 stood at 275.4%, a drop of 52.5 percentage points below the peak during the recession. The PSR in the latest month was only 1.7 percentage points higher than in the worst month of the recession. Importantly, both measures now point in the direction of higher leverage, with the PSR showing a more significant deterioration. From the recession high of 8.1%, the PSR dropped to 4.8% in April 2014.

Historical Record

The most recently available PSR is at low levels relative to the past 114 years and well below the long-term historical average of 8.5% (Chart 3). The PSR averaged 9.4% during the first year of all 22 recessions from 1900 to the present. However this latest reading of 4.8% is about the same as in the first year of the Great Depression and slightly below the 5% reading in the first year of the Great Recession.

In Dr. Martha Olney’s (University of California, Berkeley and author of Buy Now, Pay Later) terminology, when the PSR falls households are buying now but will need to pay later. Contrarily, if the PSR rises households are improving their future purchasing power. A review of the historical record leads to two additional empirical conclusions. First, the trend in the PSR matters. A decline in the PSR when it has been falling for a prolonged period of time is more significant than a decline after it has risen. Second, the significance of any quarterly or annual PSR should be judged in terms of its long- term average.

For example, multi-year declines occurred as the economy approached both the Great Recession of 2008 and the Great Depression of 1929. In 1925 the PSR was 9.2%, but by 1929 it had declined by almost half to 4.7%. The PSR offered an equal, and possibly even better, signal as to the excesses of the 1920s than did the private debt to GDP ratio. Both the level of PSR and the trend of its direction are significant meaningful inputs.

John Maynard Keynes (1883-1946) correctly argued that the severity of the Great Depression was due to under-consumption or over-saving. What Keynes failed to note was that the under-consumption of the 1930s was due to over-spending in the second half of the 1920s. In other words, once circumstances have allowed the under-saving event to occur, the net result will be a long period of economic under-performance.

Keynes, along with his most famous American supporter, Alvin Hansen (1887-1975), argued that the U.S. economy would face something he termed “an under-employment equilibrium.” They believed the U.S. economy would return to the Great Depression after World War II ended unless the federal government ran large budget deficits to offset weakness in consumer spending. The PSR averaged 23% from 1942 through 1946, and the excessive indebtedness of the 1920s was reversed. Consumers had accumulated savings and were in a position to fuel the post WWII boom. The economy enjoyed great prosperity even though the budget deficit was virtually eliminated. The concerns about the under-employment equilibrium were entirely wrong. In Keynes’ defense, the PSR statistics cited above were not known at the time but have been painstakingly created by archival scholars since then.

Implications for 2014-2015

In previous letters we have shown that the largest economies in the world have a higher total debt to GDP today than at the time of the Great Recession in 2008. PSRs also indicate that foreign households are living further above their means than six years ago. According to the OECD, Japan’s PSR for 2014 will be 0.6%, virtually unchanged from 2008. The OECD figure is likely to turn out to be very optimistic as the full effects of the April 2014 VAT increase takes effect, and a negative PSR for the year should not be ruled out. In addition, Japan’s PSR is considerably below that of the U.S. The Eurozone PSR as a whole is estimated at 7.9%, down 1.5 percentage points from 2008. Thus, in aggregate, the U.S., Japan and Europe are all trying to solve an under-saving problem by creating more under-saving. History indicates this is not a viable path to recovery. [reference: Atif Mian and Amir Sufi,. House of Debt, University of Chicago Press 2014]

Japan confirms the experience in the United States because their PSR has declined from over 20% in the financial meltdown year of 1989 to today’s near zero level. Japan, unlike the U.S. in the 1940s, has moved further away from financial stability. Despite numerous monetary and fiscal policy maneuvers that were described as extremely powerful, the end result was that they have not been successful.

U.S. Yields Versus Global Bond Yields

Table one compares ten-year and thirty-year government bond yields in the U.S. and ten major foreign economies. Higher U.S. government bond yields reflect that domestic economic growth has been considerably better than in Europe and Japan, which in turn, mirrors that the U.S. is less indebted. However, the U.S. is now taking on more leverage, indicating that our growth prospects are likely to follow the path of Europe and Japan.

With U.S. rates higher than those of major foreign markets, investors are provided with an additional reason to look favorably on increased investments in the long end of the U.S. treasury market. Additionally, with nominal growth slowing in response to low saving and higher debt we expect that over the next several years U.S. thirty-year bond yields could decline into the range of 1.7% to 2.3%, which is where the thirty-year yields in the Japanese and German economies, respectively, currently stand.

Van R. Hoisington
Lacy H. Hunt, Ph.D.

*  *  *

Bonus Chart: Another false dawn? Are 10Y yields set to drop below 1%?

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kaiserhoff's picture

And no one will have a real job, and we'll all freeze and starve in the dark,

  but hey, you made money on treasury bonds.

Shit for brains.

7.62x54r's picture

After real inflation, the dumbass lost money. Shadowstats.com puts the current inflation rate for USD at just under 6%.

ZerOhead's picture

< Hoisingtons brains are overvalued

< Hoisingtons brains are undervalued

Tic tic tic tic...


SafelyGraze's picture

treasurys are undervalued by *at least* 4%



SumTing Wong's picture


"With U.S. rates higher than those of major foreign markets..."

As Max Keiser so aptly put it, the US is the leper with the most fingers. I'd take gold and silver for the win.

Pool Shark's picture



Before anyone discounts Hoisington's analysis...

Some of us are old enough to remember the rampant inflation of the 70's, Volcker raising the prime rate to near 20%, and signing 30-year fixed rate FHA mortgages for 14% in the early 80's. If you'd told us then that over the next 30 years, the US government would be going into debt by over $17 trillion dollars, but that over that same period, 10-year Treasury yields would consistently drop from north of 16% until they were at 1.5%; we would have laughed you out of town.

Fast-forward to 2014, and here we are. I still think precious metals are a great investment, but anyone who thinks bonds are a bad investment should just go ahead and buy stocks (good luck with that) and other leveraged assets instead. When the next crisis hits (and it will), there will be (just like 2008) a 'hunt for liquidity,' and leveraged assets will crash in a deflationary downdraft (at least initially). In a deflation, cash (including gold) is king. Bonds will be the safe haven (just like they were in 2008). So those of you who are discounting the above analysis need to check your premises.

We are Japan,... circa 1989...


Manthong's picture

I sure wish this text editor worked better.

Manthong's picture


Not E

If government spending is more than 25% of your country’s spending and greater than 45% of your population gets a government check every month, then..

A.    Your population is essentially in slavery

B.    Your government is out of control

C.    Most people in your country have been deceived by almost all institutions

D.    You are screwed

E.    All of the above

Stoploss's picture

Holy shit.. I just realized falling bond traders can come from anywhere......

The known whereabouts of bond trader concentrations in areas where one might frequent, would indeed be a handy little piece of information to have.

El Oregonian's picture

Steve Martin's line from the movie "The Jerk": "Oh, it's a profit deal!"...right?....


MFL8240's picture

The past four quarters have recorded a nominal “top-line” GDP expansion of only 2.9%, 

More bullshit from the courrpt crowd!  -2.9% GDP last quarter!

Pool Shark's picture



The problem is that most people forget (or never knew in the first place) that government spending adds directly to the GDP calculation. Take that out of the equation (literally) and we never left the 'Great Recession' of 2008...


The Most Interesting Frog in the World's picture

The insanity of the last 14 years is that the US has been in substantial decline, but adding to the equivalent of a credit card to create "growth".

Suleyman's picture

This is flawed. There is no fundamental connection between growth rate and interest rate, at least not in the free market.

buzzsaw99's picture

absolutely. growth and all that other correlation crap they spewed up there is all bullshit. the amount of public debt in countries which control their own currency is inversely correlated to the interest rate. this is caused by the central banks.


us public debt $1T 10y ~ 12%

uk public debt L150B 10y ~ 12%

japan public debt Y50T 10y ~ 9%


us public debt $15T 10y ~ 2.5%

uk public debt L1.5T 10y ~ 2.5%

japan public debt Y1Quad 10y ~ 1%



ZerOhead's picture

Just another reason why there can never be any inflation going forward. Seriously. Ever.

buzzsaw99's picture

I found this tidbit to be quaint: GDP=M*V

hahahahahah snark! lololololol

GDP is a made up number they change the calculation method whenever they want!


hahahahahah snark! lololololol

buzzsaw99's picture

correct conclusion for all the wrong reasons imo

ZerOhead's picture

print till she blows...

knukles's picture

(sigh...hugs and kisses)

One And Only's picture

2103 elm Ave 23704.... $1000. We might need rates lower.

Blue Dog's picture

Only a complete fool would buy a 30 year treasury bond. Or even a 3 year bond if they exist. The US will default on its debt. Real inflation is higher than the interest rate. 

debtor of last resort's picture

Gimme that worthless collateral.

CrashisOptimistic's picture

Precisely, if you think it's worthless, give it to me.

The overall gist says it clearly, but what's not clear to some here is the corollary.

If you think US bonds are overpriced, then you must think the US is a stronger economy than Japan.

debtor of last resort's picture

US Fukushima is in politics. One mr. Mc Cain will show up prime time, with two tongues, licking at the camera's. Bonds? JFC, get a life.

Pool Shark's picture



Blue Dog:

The US doesn't need to default. They will make good on their debts if they want to. The only problem is that the payments may eventually look like this:


ratpack1968's picture

Few would buy a 30 year Treasury to hold to maturity (unless a pension fund or insurance company matching liabilities). However, as a shorter-term trade, long bonds have paid handsomely - +13 YTD, +29% in 2011.  I agree with Hoisington's analysis as does Gary Shilling and others.

realWhiteNight123129's picture

What a farce. Taking the statement of Knut Wicksell which were made under a system redeemable currency to extend that in a system of forced currency (fiat).


Wicksell was stating something that Henry Thorton was mentioning as well in 1801, which is that if the rate of interest is maintained below the rate of commercial profits, an undesirable augmentation of credit would occur.

As for Wicksell, the rate of interest in a redeemable currency system is constained. If kept too low, people would convert their currency into Bullion and ship it overseas, so the market could force the interest rates higher. (Something that still occurs in Hong-Kong because HKD is redeemable for USD).


As for nominal rates and GDP, Wicksell is operating in an environment where nominal rates AND real rates are always positive (Gold system). 

So in reality we have negative real interest rates today which are highly manipulated in a non-redeemable currency system. The quote of Wicksell is hardly applicable today. 

My goodness where do those guys get to learn their stuff and get PHDs???

As for 30 years bonds, those guys ignore totally the principle of solvency and leverage. They should read Rogoff. Those guys are tellin us to buy bonds of a country which is monetizing its debts and is totally bankrupt by any historical measure....

Are those guys going to take their heads out of their ass or what?

Their stuff is a combination of neo-gibbrish started with a guy who only had 1 semester of Marshall Economics (Keynes) and who ignored Thonrton, Tooke, Fullarton and pretty much everything which was written in teh XIX century about currency principles. 

Economics is moving totally backwards, this is appaling... 

"As chart one attests, interest rates below nominal GDP growth helps to accelerate economic activity and vice versa."



Nope, the interest rates below commercial rate of profits (and below nominal GDP) tends to increase leverage, which for a while juices up the economy.




Wait What's picture

why ZIRP was never going to do anything but misallocate capital.

why studying orthodox modern economics is a fool's errand.

debtor of last resort's picture

If you had three passports, which three would you burn?

RaceToTheBottom's picture

Interesting that the personal saving rate graphs all change trend at 1971.

When Nixon took the US completely off any bit of Gold Standard.

That should have been mentioned in the article....

Elvis the Pelvis's picture

Your best bet is to be long on the American dollar.  When this asset bubble blows to high heaven, deflation will rule the day.  Meanwhile, the Fed has no arrows left in the quiver--unless they go with negative interest rates.  But what do I know?  Bitchez.

realWhiteNight123129's picture

You have to own M0 under the matress (FRN). Currency deposits are not safe. 

knukles's picture

Everybody here says a crash is imminent.  Imminent or not, a distressed system pushes monies to relatively lower risk assets.
If there is another Lehman moment (You guys who understand statistics will get this one, another 50 year event that happens once every ten years or so... Oh, I knew you knew how to spell Leptokurtosis and Stasis) then gold and treasuries will be the only places to hide.

Any port in the storm, works wonders.

So, if you want a disaster, it won't be with rising rates.
Sorry, but it don't work like that.

PS  Congrats, Van.  You would remember me from long ago.  You're one of the few kept true ...  Kudos

TimmyM's picture

Year after year Lacy and Van come on here and explain why they have been long Treasuries and every body trashes them with supreme confidence.
Yet, they have been borrowing at near ZIRP and owning thirty year T-bonds on leverage with huge positive carry and enormous capital gains for at least a decade.
I would say that money talks and bullshit walks.
I for one have made a career listening to these "idiots".
When you dumb fucks (not you knukles) start liking bonds is when I get worried.

Beatscape's picture

Debt levels and Fed monetization aside, the one chart I do like here is his "bonus" one that correlates the velocity of money and the Ten-year. The economy won't get off its ass while the velocity of money continues to deteriorate. The velocity of money is now lower than it's been since 1959, and continues to drift down.  I think the Ten-year treasury rate will continue to drop.  (1) Artificially due to Fed intervention, and (2) due to market forces: the protracted decline of the velocity of money.  How is the Fed going to "cure" the velocity of money problem? Negative interest rates coming to a bank near you soon! 


realWhiteNight123129's picture

The common mistake is take the credit formation on top of M0 as a measure of the velocity of money. It is incorrect. The velocity of money can change with no credit formation. Thornton is the pioneer on the concept of plunging velocity of money during panic. Right now, the ratio only measures increasing M0 in relation to other currency aggregates. If you have rupees (m0) in a tin can hoarded by people velocity of money in India would plunge. if people start to spend and ciruclate the rupees (M0) and buy stuff, velocity of money increases, yet if it circulates as pure M0 withtout being deposited in a bank, velocity increases yet there is no creation of M1, M2 or M3 (currency aggreates). Those are currency aggregates not ~monetary~ aggregate. Currency can fail (Cyprus), money (M0- ECB bank notes) can not.


kaiserhoff's picture

You make a good point, and Buzz has been long Treasuries since jesus was a cub scout, and profitably so.

But if you are levered on bonds in this market, one bad day will wipe you out.

Liquidity is always and illusion - Michael Milken

realWhiteNight123129's picture

Bonds were not up in real terms in the last 5 years. As for Bonds was short at 1.6 on the 10 years, was short 30 years treasuries , and I covered at 2.75%. Do not challenge the classical economics, you will lose.... and a lot. Right now you are trading a tricket with no value... Its price can go up, it is still a trinket. The price of latest piece of garbage IPO with no earnings no cash flows no nothing can go up, it is still a trinket.... Good luck owning bonds of a bankrupt nation....




Pool Shark's picture






panem et circenses's picture

There may or may not be contention on the arguments made by realWhiteNight.

But..., the USD is certainly and fundamentally one of the least ugly in a group of disgusting fiats.

Condition that makes it one of the safest harbour in times of uncertainty, risk and low growth.

The idea of currencies pegged to precious metals is (unfortunately) utopia for the foreseeable future.

The politic establishment and the central banks boards are selected and manoeuvred by the financial elite for its own benefit (of course the game is set to make people believe it's for the general public's good).

Therefore, it's simply impossible to take away the unique source of wealth creation for the elite: the fiat system.

To take that away a serious revolution is necessary, like the French one.

But the elites (world wide) know that. And they are making sure it will never happen:

To keep people quiet, they give the bread (food stamps) and circus (cheap smart phones) to them. Sarcastically, who pays for that? People themselves and their future generations. Until the loop breaks with defaults, revolutions and wars.

But that's way out in time.

Meanwhile, Lacy Hunt is totally right. Totally.

Sam Spade's picture

ZH posted one of Lacy Hunt's reports late last year in which he predicted that the decline in long term interest rates would resume in 2014.  Many here scoffed, but the man has been absolutely correct.  30Y bonds are up about 14% year to date, while 30Y zero coupons are up around 22%.  For careful readers, this site has been dropping hints for months that long term treasuries are the place to be at the moment.  Just because the US may end up defaulting on its debt in 20 or 30 years doesn't mean you can't make money off of US treasuries in the short term.

Pool Shark's picture



Bingo! When all the investors are on the same side of the boat, you can guess which way the next 'correction' will be...


Duffy Duck's picture

just read this. makes sense.

I guess the question is how do you define short term?  Months or years?


or weeks?  Things not only get worse in an increasingly chaotic system - they get worse at an accelerating rate.

realWhiteNight123129's picture

1. it will not take 20 years for China & al to use something else than the dollar. 2. Countries never defäult when they can print which is  insiduous default. 3. US is defaulting the insiduous way right now. 4. when you jump off plane and one falls faster than the other , the one falling slower looks like it is going up. Looking at return of TSY in USD is meaningless... it is like saying that Gold has gone up 35 times in valuesince 1971. Gold has not gone anywhere, it is a dumb piece of metal that happens to havemonetary properties. It is only the fiat dollar which is in relentless fall for decades now...

TimmyM's picture

The money was printed in the credit bubble. What you call money printing, debt monetization, debt monetization, has not replaced what was lost in the shadow banking system demise.
The insane amount of non economic global credit growth of the past dwarfs the central bank monetization. The inflation you expect, we already had. The Minsky moment is deflationary.
Everyone hyper focuses on central bank policy and takes their eye of the decades of malinvestment.
The debt is the money, the market forced deleveraging is deflationary.

realWhiteNight123129's picture

there is never ever deflation in fiat. It is obvious http://commons.wikimedia.org/wiki/File:US_Historical_Inflation_Ancient.s... . To have deflation, it implies that price falls and that gov see tax revenues fall.. in fiat they would prefer hyperinflation than seeing.  No chance of deflation ever in fiat.... they always make sure to offset that, so since 1931 you have either low inflation ôr high inflation... If Nixon had not cut the link to Gold in 1971 you should have had deflation... read Jacques Rueff , deflation in fiat is a bogey man...

panem et circenses's picture

Sure it's not deflation as per formal/classical definition. You can certainly define it properly. But that does not challenge the current and decades long trend of (market driven) yield reduction despite the abnormal liquidity injection.

The trend is intact and does not find reasons to abate for at least few more years:

Everyone can propose educated opinions about why/how, but the evidence is compelling.

Is the Fed approaching conditions close to liquidity trap? Who knows.

Yet, Denmark (whose DKR is pegged to EUR) since 2012 has set negative short-term rates with no effect whatsoever on reallocation of capital from savers and investors.

gmak's picture

Phase II, after making collateral scarce and polling dealers about needing 30yrs, have some schill come out and say how undervalued the existing ones are to create even more demand.


The elites have to shift all that sort term debt into 30year maturities before the tsunami of hyperinflation smashes down on the financial beaches. Have to inflate away the value of debt and all those promises. 

the only thing standing in the way is a potential financial asset value collapse, and default dominos that usher in sweet deflation.


Meanwhile, the BRICs and R.O.W (rest of world) work fevershly to have a fallback plan for when the financial system does collapse, after the elites have removed all the muscle from the bones.