The majority of investors seem to hate them and the rest are shorting them. While at some point shorting bonds will be a huge trade we think that the timing is still a ways off for the end of the 31-Year bond bull. So what do bonds have going for them? Well the most obvious and yet what seems to be the most overlooked is the simple trend. Looking at the chart below you should ask yourself how many times have investors been convinced that rates were too low? (click on chart below to enlarge)
30-Year Treasury Yield
Aside from the trend we have the current situation with GDP growth of only 1.7% which is very slow for a so-called recovery, especially one that is five years along. In addition we have very slow growth globally as Europe continues to blow up and we keep seeing estimates for China drop every month or two. We have very slow global growth and this is showing in very low inflation data. Yes, the central banks led by Helicopter Ben are juicing the system, hell I hear Ben is dressing up as Buzz Lightyear for Halloween so he can say “QE to infinity and beyond” but the fact is that despite their best efforts inflation remains muted.
In a world of extremely slow growth and chronically low inflation we would expect Treasuries to do well and lo and behold they have. Since QE1 was announced November 25th 2008 we have seen 30-Yr yields drop from 3.632% to 2.988% and the 10-Yr dropped from 3.092% all the way to 1.811%. If this does not make it obvious that QE alone does not cause the bond market to crash then nothing will. No, until we see stronger growth and a large pick up with inflation we expect fundamental picture to remain decent to strong for Treasuries.
Now of course we are going to get some people saying “but bonds are up too much” our natural response would be something like WTF? but our more reasoned response would be compared to what? Bonds have been up “too much” for the last 20 years. Who would have ever thought that 5% 30-Yr interest rates would sound high? Rates are low but they are a long ways from 0% which would indicate that they have room to go lower. That said what does the technical picture look for bonds? In the chart below we have our intermediate term 30-Yr Reversion to the Mean (RTM) chart. While the RTM chart isn’t saying load the boat it is also not saying run for the hills as it is instead giving us an almost perfectly neutral reading which indicates that bonds have plenty of room to go up or down before reaching anything near an oversold/overbought point. (click on chart to enlarge)
30-Yr Treasury RTM
Finally, at least for now, is the sentiment picture. We all know that volatility is one of the most mean reverting series in all of finance. In the chart below we have the Treasury MOVE index vs the 30-Yr yield and then we have overlaid the 30-Yr yield with an inverse scale. We inverted it so it is a better visual as to what happens to bond prices when the MOVE index is so low. As you can see when Treasury volatility is really low it is usually a time to be buying bonds and when it is high is when you should be selling. Well right now we are hovering close to the lows of the past five years indicating that bonds could take off at any time. (click on chart to enlarge)
So is going long bonds the new trade of the century? Nope not by a long shot. Still that doesn’t meant that there isn’t a case to be made for being long. The economic fundamentals are in place, unless you think we are the cusp of a huge growth spree. The technical picture is saying that while its not a perfect buy there is plenty of room to run. Finally sentiment/volatility are saying that the time in at hand for a renewed move higher in Treasury bonds. Obviously we could be wrong but the risk reward is there.
Disclaimer-In our model portfolio we are long TLT, AGG, and FLAT.