Treasury Bonds, US Dollar, Japanese Stocks: 2015 Investment Themes by John Mauldin, Mauldin Economics

“If it ain’t broke, don’t fix it,” says my friend Gary Shilling as he kicks off today’s Outside the Box. He’s referring to his investment themes for 2015. He first gives us 11 reasons to continue favoring long Treasury bonds. That’s an obvious play for him if you know his view, but it’s nevertheless a compelling one this year and one that you should think through, given the specter of deflation about in the world, the firing up of QE in Japan and Europe (which gives folks money to buy … Treasurys), and the safe-haven status of the US dollar.

Gary’s reason #9 for buying Treasurys is that “The odds of a near-term Fed rate hike are receding. He sees any Fed rate increase being pushed out “as the deflationary effects of the oil price plunge sink in and investors – and the Fed – realize that foreign central bank stimuli amount to Fed tightening [in relative terms].”

Gary’s remaining themes for 2015 include some other clear winners like the US dollar and Japanese equities (no surprise there), but also some interesting defensive plays like consumer staples and foods and what Gary calls “small luxuries.”

Be sure to see the special offer for Gary Shilling’s INSIGHT at the conclusion of the letter.

An interesting thing happened last week. I get a lot of email from readers and do try and sift through them. I got a very kind note from one reader who thanked me for the introductions we do for Outside the Box – he said they compel him to read the articles, which he finds useful. Of course, that one made me feel good. Then less than an hour later I got a polite note from another reader who complained about my introductions, because he prefers to just jump right in, without my stealing any of the author’s thunder. Both comments made me think more about the process of bringing OTBs to you, which is also good. Sometimes we just do things out of habits that have accreted over time, and I may need to be more aware of what I am actually presenting. I really do appreciate your feedback, positive or constructive.

This has been an extremely busy week, as the entire Mauldin Economics team has been in my home for the past three days, sharing ideas, shooting videos, making plans. That means I get a little behind on some things, but being with smart, creative people really gets my juices flowing.

Tonight is sushi with even more guests (and Neil Howe is in town). More planning and meetings and more things that get added to my to-do list.  But it is all fun and exciting.

You have a great week, and now let’s look at Gary’s investing themes for 2015.

Your overwhelmed with ideas analyst,

John Mauldin, Editor
Outside the Box

[email protected]

2015 Investment Themes

(Excerpted from the January 2015 edition of A. Gary Shilling’s INSIGHT)

Our 2015 investment themes are quite similar to our 2014 list that worked well for us. If it ain’t broke, don’t fix it.

The Treasury “bond rally of a lifetime” still seems intact. The “risk on” investment climate for U.S. equities persists, but as in 2014, we approach it with trepidation and with a defensive portfolio position. The U.S. economy is continuing to grow but at subpar rates (Chart 1) while growth in China is slowing, is very sluggish in the eurozone and negative in Japan.

Treasury Bonds, US Dollar

The dollar is reigning supreme (Chart 2)—and 2015 may turn out to be the year of the greenback as almost every other currency declines against the buck, especially the euro and yen.

Treasury Bonds, US Dollar

Commodity prices may drop much further, especially petroleum, while financial problems in Russia, Venezuela and elsewhere escalate severely. Deflation is spreading worldwide and may expand beyond the energy sector to prices in general. And low-quality bonds here and abroad are likely to keep declining as are emerging market stocks.

Here are our 13 investment themes for 2015.

1. Treasury bonds. There are many reasons why we continue to favor long Treasury bonds. Here are 10:

1. Safe haven. Like the U.S. dollar, Treasurys are a safe haven in times of global turmoil and uncertainty, of which there are plenty today.

2. Deflation, extant in many countries (Chart 3) and looming in many others including the eurozone, makes current Treasury note and bond yields attractive.

Treasury Bonds, US Dollar

3. Quantitative Ease, underway in Japan and likely soon in the eurozone, provides money to invest in U.S. Treasurys.

4. Treasury yields are attractive relative to those abroad. The 2.17% yield on the 10-year Treasury note vastly exceeds the 0.54% yield on 10-year German bunds, 0.33% for 10-year Japanese governments (Chart 4) and almost every other developed country 10-year sovereign (Chart 5). With the new round of QE in Japan and impending QE in the eurozone, the BOJ and ECB will be buying more government securities, sending yields even lower. The U.S. government obligation is probably at least as high quality as any of these others, and the rising dollar against the euro and yen enhances the appeal to foreigners of buying U.S. debt. What are we missing?

Treasury Bonds, US Dollar

Treasury Bonds, US Dollar

5. Foreigners are buying Treasurys. In the December sale of $13 billion in 30-year Treasurys, indirect bids, a measure of foreign demand, took 50%. The Fed is no longer adding to its Treasury portfolio but foreigners, as well as domestic investors, are more than replacing Fed purchases. With half of Treasurys owned abroad, it is truly a global market.

6. U.S. banks are buying Treasurys as they move away from lower-quality assets, in part to comply with new rules requiring the biggest banks to hold more liquid assets and 60% of these must be backed by the federal government. Also, in counting towards liquid assets, corporate obligations get a 50% haircut but those backed by the full faith and credit of the federal government get 100% credit.

7. Long Treasurys continue to be attractive to pension funds and life insurance that want to match their long-maturity liabilities with similar duration assets.

8. Junk and corporate bonds are losing favor vs. Treasurys. The spreads between junk vs. Treasurys are widening as Treasurys rally while junk bonds sell off under the weight of heavy issues and investor worries about defaults, especially on weak energy company issues. At the same time, the spreads between Treasury and investment-grade yields are widening. Note that energy bonds represent about 20% of most fixed-income benchmarks. Companies are issuing debt at the fastest rate on record, often to fund dividends and share buybacks. Meanwhile, the issuance of Treasurys is shrinking as the federal deficit falls (Chart 6). Unlike the ECB, which is likely to buy corporate debt, the Fed is highly unlikely to do so. This pushes money from U.S. corporates

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