For over 4 years the consensus has been talking about a Bond Bubble that will burst sending interest rates higher as record money inflows into the safety of Bonds reverses in a tidal wave of panicked investors selling Bonds as inflation surges.
Our long held assumption of a growing economy that gradually matures into faster self-sustaining growth prior to the next long term peak warrants higher interest rates
However, ex-pectation of rising interest rates with the 10 year Treasury exceeding 3% has been overdone. Small traders have jumped on the band wagon Selling Bond Futures short at record levels.
As long as Banks and commercial investors are heavily buying in their hedges while the often wrong small speculators are extremely negative, it’s a good sign that Bond prices move higher and yields fall further as has been occurring in late 2013 through early 2014.
Most analysts and business people assume logic that high debt leads to inflation, they assume printing excessive amounts of money and expanding the money supply will cause higher inflation and interest rates, they also assume that merely an expanding economy will cause higher inflation and high-er interest rates.
All the conditions for higher yields and higher inflation have been perfect – in fact one should have expected a Bubble bursting with massively rising CPI inflation. We have been saying for years that there was NO reason for rapid inflation or higher Bond yields and that the risk was deflation.
The historic Quantitative Easing (QE) and printing of money has only allowed the global economy to avoid deflation by restoring modest confidence with herculean efforts guaranteeing the banking system and making yields so low that riskier employment of money was encouraged.
Markets have assumed a 2014 start to the QE Taper when the Fed will reduce the amount of Bond buying—cash creating—stimulus it provides. Cessation of this stimulus and talk of Selling their multi Trillion Bond portfolio could reach a climax near the end of 2014. Since 2012 the 10 Year interest rate has risen from 1.5 to 3%.
Institutional buyers (Commercials) have been buying Treasuries while small and large traders/Hedge Funds have been selling at historic levels from mid-2013 to mid 2014. Despite the overwhelming evidence that interest rates will rise longer term, as long as these extreme commitment of trader positions continue, then the forecast remains a surprising rally in Bond prices where yields fall from>3% to below 2.5%.
Interestingly 30 year long Bonds vs 5 and 10 Year Treasuries show a desire by Hedge Funds and banks to expect a wider yield curve spread with excessive selling of Bonds on the short end and buying bonds on the long end.
Our Bond Buy point has been the 122 to 123 on the 10 Year Treasury Note price zone for a po-tential low (roughly 3% to 3.1% in yield).
Rates will rise well above 3%, just not yet.
What will cause interest rates to rise again to new multi-year highs for this cycle?
- Sustained US GDP economic growth rates >3.5%
- ISM PMI manufacturing expansion level above 58 for a few months
- 3 month moving average of nonfarm payroll growth >280,000
- German 10 Year Government Bond Yield over 2% (rising Global interest rates)
- Commercial & Industrial Loan demand remaining above a 10% growth rate
There are many positives for Bond prices and lower interest rates while the economy, wage growth and consumer confidence remain weak.
Furthermore demographic demand is favorable while the economy is slow growing as the massive retirement of Baby Boomers that began during the 2008 recession will increasingly encourage a flight to fixed income safety which reduces a quickly maturing supply of Bonds raising prices and lowering yields.
Comparative rates are favorable for US Bonds (debt) vs foreign debt as well
Would you rather have a German Bond at 1.3% or an equivalent US Bond at 2.5%? Would you rather have a relatively risky Spanish Bond at 2.95% or a safe US Bond at 2.5%?
These fundamental factors can be used to support the case why the Bond Bubble has failed to burst as so many expected, but the hedge fund shorts and bank long positions have been telling us since July 2013 that interest rates will remain under 3% until these large funds and commer-cial monies begin to unwind their current extreme posture.
QE—Quantitative easing— will con-tinue to be reduced—tapered—until either the economy decelerates and threatens 2 quarters under 1% GDP growth or the stock market panics roughly 20% lower.
Since the 3rd quarter of 2013 we have been virtually alone calling for “lower” interest rates.