Raise your hand if you’ve been waiting, and waiting, and waiting for interest rates to finally rise. No way rates could stay at zero forever we all said in 2010, and again in ’11, and ’12… and then finally in ’13 – a light at the end of the tunnel. Rates actually went up as bonds lost –4.54% ($BND). Following that, 2014 was surely the year interest rates were going to start rising in earnest, fueled by more tapering and perhaps turning into the mother of all trend following trades.
Except… nobody remembered to tell the bond market what it was supposed to do – as rates fell in 2014 with bonds gaining ($BND +5.93%), proving us all wrong once again…
(Disclaimer: Past performance is not necessarily indicative of future results)
Chart Courtesy: Finviz
Which brings us to lovely 2015, the year of the Sheep, where bond yields have once again made a brief run higher, moving from a low of 1.68% on the US 10 Yr to a high of 2.28% {Past performance is not necessarily indicative of future results}. Now, your elders may scoff at 60 basis points move, but for those of us who have lived at the zero bound for the past 5+ years, 60bp is nothing to shake your head at. And it wasn’t the kindest of moves to those who systematically trade such markets – with managed futures and global macro down in February and April as the months-long up trend (in prices, down trend in rates) reversed course.
Which all leads to the $1 million $1 Trillion question – is this the move higher in rates we’ve all been waiting for? Or are we just sheep being led to the proverbial slaughter once again believing two months of rising rates means many more months of rising rates ahead.
Interest rates – We’re really bad at this question
Before proceeding, it’s worth noting that, as a society, we’re quite bad at forecasting where rates are going. Here’s the US government’s track record:
(Disclaimer: Past performance is not necessarily indicative of future results)
Chart Courtesy: The New York Times
And here’s Wall Street’s track record….
(Disclaimer: Past performance is not necessarily indicative of future results)
Chart Courtesy: Business Insider
Those dotted lines are where they forecast interest rates to go. The solid lines where they actually went, showing that nearly everyone involved (Bill Gross and Warren Buffet included) has consistently guessed on the high side when forecasting where interest rates are going. Now, we’ve covered the Folly of Prediction before, with this great nugget from Freakonomics:
It’s impossible to predict the future, but humans can’t help themselves. From the economy to the presidency to the Super Bowl, educated and intelligent people promise insight and repeatedly fail by wide margins.
Which leads us to one of our favorite bloggers, JC Parets, who calls this 35 year low yield run one of most historic trends in American history, and questions everyone’s assumption that this run will go quietly without a fight.
“Why does it just have to reverse overnight? Historically, going back over a 200 year bond market, interest rates tend to bottom out through a process that takes somewhere between 10-20 years depending on which bottom in rates we are referencing. Look back at history; it’s there for us to learn. Interest rates hit new lows just a few years ago (on the 10year), so we should just now assume that we are about to see the first v-bottom in rates in American history? Why because the short bald guy on the TV says so? Or the 10,000 articles that all repeat the same thing?”
Couldn’t have said it better ourselves… although we’ve argued that just because it’s never happened doesn’t mean it won’t happen. There’s all sorts of reasons this time could be different (how close we are to 0% rates, the historic length of time we’ve been at near zero, the historical stimulus, bond buying twist operations, and the rest…). But we sure do believe it will happen and keep getting the feeling from managers and investors alike that this time feels a little bit different. This move in rates, while not as big as the move in 2013, has the taste of a real precursor to something more significant. Now, that’s likely all due to the backdrop of the Fed finally playing their part and doing their dance saying they’re interested in raising rates again, sometime, someday. Or maybe it’s because we keep getting pitched on ‘solutions’ for rising rates. You can’t help but see this little advertisement every time you log out of your Chase account:
Are you ready for Rising Rates?
Now, if you actually read the Chase Private Client group paper, it’s more about warning you that the bond portfolio they have you in is going to lose money and the loan you took against your stock portfolio is going to start costing you more every month. It’s more of a public service announcement on how rising rates will affect you, not really what you should be looking at for when rates rise to make sure they don’t affect you negatively. But the question is a good one that bears repeating… are you ready for rising rates?
Or, as we read the question – does your portfolio contain something that doesn’t react negatively to rising interest rates? There’s a little asset class we know of that tends to like trends in interest rates (up or down) just fine, thank you. We’re talking systematic managed futures and global macro programs, who have been fueled by the near perma-trend that was falling interest rates for years. And here’s the kicker… they can’t be wrong in their forecast, because they don’t do forecasting. They bracket a market like bonds, not caring whether they are going to trend higher or lower… and upon a breakout move above or below said bracket, they participate. Sure, this results in a lot of false breakouts, but it helps make sure you’re in the big one when it does come.
So whether this is really the start of the real move, or just another head fake, make sure you’re not just looking at how you will take a hit when rates rise, but also what you can do about it…
PS – Stuck in the airport, or at the in-laws; dig into our past takes on bond prices/rates below:
“About those Higher Interest Rates (Lower Bond Prices)”
“Will a Negative Roll Yield Shut Down Managed Futures Bond Tailwind?”
“Meanwhile, in Bonds…”
“Bridgewater Growing Bearish on Bonds”
“Bonds Winding Up?”
“Looking for the Top in Bonds, Part XIV”
“Hedge Funds “Piling into Long Bonds”
“Bonds Fake Out Managed Futures Again…”
“Why Managed Futures Love Bonds”
“Managed Futures not going anywhere until Bonds wake up…”
