By Steve Blumenthal
“We’ve been bulls on 30-year Treasury bonds since 1981 when we stated, “We’re entering the bond rally of a lifetime.”
“Their yields back then were 15.2%, but our forecast called for huge declines in inflation and, with it, a gigantic fall in bond yields to our then-target of 3%.”
“It’s still under way, in our opinion.”
– A. Gary Shilling
Let’s take a look today at just how attractive U.S. interest rates are relative to most of the world. To wit, the title of today’s piece, “The Best Looking Dude at the Dance.” Who in their right mind could have imagined that 1.50% would be attractive? We’ll look at the comparisons today and consider the implications. Lower for longer? Dr. A. Gary Shilling says yes. I’m getting concerned that too many are now in that camp (yours truly among them).
The bond market seems to have forgotten last Friday’s strong employment report. The worry about “What Would Janet Do” (raise interest rates) has subsided. The yield on the 10-year Treasury jumped from 1.49% to 1.58% back down to 1.50%. What is this telling us? One thing that’s apparent to me is that the global capital flow advantage goes to the U.S.
WWJD – here is what the CBOE’s Fed Watch tool is saying the probabilities are for a September 21 rate hike:
Further, the Fed meets on November 2 and December 14. CBOE puts the probabilities of a 25 bps to 50 bps FOMC rate hike at 86.2% in November and 57.4% in December (as of 10:45 am this morning). (This doesn’t mean they will hike each time.)
And what does this mean for you and me? I invited my banker to the golf course yesterday. He offered me a 2.75% for a 15-year mortgage. I hit that offer. Done – thanks Al. With many tuition payments to cover, the savings for me and my family is meaningful. For the record, I don’t think the Fed hikes. In my view, the debt drag and perfectly correlated low gross domestic product (GDP) growth are the main reasons.
Real GDP (ex. inflation) increased at an annual rate of 1.2 percent in the second quarter of 2016, according to the “advance” estimate released by the Bureau of Economic Analysis. In the first quarter, real GDP increased 0.8 percent (revised).
All recessions since 1948 started with an average growth rate greater than the current 1.2% rate. There are three instances where the one-year growth rate was below the current level and recession did not occur. Two of those were 2011 and 2012, where weak growth was met with renewed rounds of extraordinary stimulus (QE). Only 18% of all observations going back to 1948 are below the current 1.2% growth rate level. Of that, 94% occurred during or within a calendar quarter of a recession. Source @michaellebowitz.
Goldman Sachs says the poor GDP showing was due to cutbacks in inventories. They noted the longest stretch in nearly 60 years. They say inventory restocking will contribute positively in the second half. Let’s hope so. An economy compounding below 2% is not good for us in the long term.
This post crisis recovery is, as Trump might say, “terrible, terrible”:
What about inflation? U.S. inflation (as measured by the PCE index) remains benign:
For now, I remain in the lower for longer camp and believe more extraordinary central bank measures remain ahead.
Turning to the stock market, the S&P 500 Index has a 2.2% dividend yield. Investors may be feeling that stocks are the “new bonds.” The S&P 500 Index hit another record (as well as the Dow and the NASDAQ indices). Technology is leading the charge. That’s good news for the CMG Opportunistic All Asset ETF Strategy as we are overweight tech. It’s good news for high yield bonds (which act much like stocks at times) and it is good news for long-term Treasury bond ETFs, such as EDV and TLT.
More on the lower-for-longer interest rate front. The Johnson Redbook Index (see definition in the following chart) fell below the lowest level since 2009:
Other assets have rallied aggressively YTD, such as gold (“GLD” +25.8%), silver (“SLV” +43.7%), utilities (“XLU” +19.3%) and high dividend payers (“NOBL” +14.2%). “Sell stocks and buy gold,” Stan Druckenmiller advised several months ago. Few can take such a highly concentrated bet. Few have that speculator’s gene, conviction, knowledge, passion and time. Generally, we continue to advise investors to diversify their portfolios among several risks. To concentrate one’s portfolio with only one or two big risks makes that person a speculator. In my view, one cannot be both an investor (diversified) and a speculator.
OK – enough rambling on my part. Grab a coffee and take a look at what Gary Shilling has to say in a piece he recently wrote, “The Bond Rally of a Lifetime.” You’ll see below that he continues to recommend long-term Treasury bonds.
I also share a few thoughts on Europe and its advancing sovereign debt crisis. Italian banks are in trouble (bail in or bail out is on the horizon) and something is troubling at Deutsche Bank. Click the orange link below.
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Included in this week’s On My Radar:
- The Bond Rally of a Lifetime, by Gary Shilling
- 2016 Outlook Update – Italian Banks and Deutsche Bank
- The Best Looking Dude at the Dance
- Charts for the Beach 2016, by Richard Bernstein
- Trade Signals – Feels Like 1997 Absent the Cab Drivers Speculating on Stocks
The Bond Rally of a Lifetime, by Gary Shilling
In June, I wrote about Gary Shilling and shared some highlights from his presentation given at the Mauldin Strategic Investment Conference. In short, he sees too much debt globally, slow growth and U.S. interest rates heading even lower.
Early in my career, I worked for Merrill Lynch. In those days, we listened to the research team each day over what was called a “squawk box.” The great Bob Farrell, Stan Salvigsen, Chuck Clough and Richard Bernstein. Just before my start in early 1984, Gary Shilling was ML’s Chief Economist. He lost his job because he called for a recession. He was told that we sell only good news on Wall Street. His research turned out to be right. I’ve followed Gary for years.
Yesterday morning, the following came to me from John Mauldin (and to you also if you are a subscriber to his free letter, Outside the Box).
Here is what John said as he introduced the latest A. Gary Shilling letter:
In 1981, as inflation and Treasury yields were screaming to new heights, good friend Gary Shilling had the audacity to announce, ‘We’re entering the bond rally of a lifetime.’ He was right, as that bond rally is already 35 years old and I think it will see a