The Bond Rally that Refuses to Die

Why the 30-Year Bull Market in Treasuries is Still With Us

The Bond Rally that Refuses to Die
October 22, 2014

U.S. Treasury bonds are on an incredible bull run. Since reaching a peak of over 15% in the early 1980s, bond yields on 10-year Treasuries have fallen to their current range of 2.5% range, thus resulting in a significant rise in bond values.

Experts have been calling for the bull run on bonds to end for some time, and they have yet to be right. Still, there is not much more room available for the bond yield to fall. Eventually the experts will be right…won’t they?

Eventually they will, but probably not right away. There are two significant issues keeping bond yields high.

  • Global Unrest – Russia’s actions in Crimea and the Ukraine, as well as the unrest in the Middle East, have left investors unusually nervous. Treasury notes have the continued reputation as a safe haven for investors against all of the turmoil in the world, and nothing in recent weeks suggests that geopolitical stability is on the near horizon.

    Throw in any sort of significant outbreak of Ebola beyond West Africa, and the effect on jittery investors will be massively multiplied.

  • Federal Reserve Policy – The Federal Reserve has gone to impressive lengths to stimulate the economy through their bond policies, and they do not appear to be inclined to reverse their policy anytime soon.

    Stockholders have benefitted from the stimulus, yet the millions of dollars that have been pumped into the economy have resulted in relatively weak economic growth and job creation. The Fed has signaled their intention to keep rates low until job creation improves and the slack is taken up in the long-term unemployment rate.

While the Fed’s bond buying program is scheduled to end in October, it is not a given that they won’t buy more Treasuries to replace those that are expiring. Meanwhile, the Fed’s balance sheet has grown to a massive $4.4 trillion, and the Fed seems unlikely to sell any significant amount of these bonds in the near future.

The Fed has purchased a minimum of 40% of the bonds at every debt auction in recent years. For the Fed to switch from the largest buyer of bonds to a seller would cause a significant jolt to the bond market, and would run counter to the Fed’s efforts (although at some point the Fed is going to have to deal with their bloated balance sheet).

Even though there are signs that the economy is growing, with upbeat figures on jobs and manufacturing growth, interest rates have stubbornly stayed low. The Chief Investment Strategist at Janney Capital, Mark Luschini, says, “…either the 10-year Treasury is signaling it’s not buying better economic growth, or it just doesn’t care.” It could also be that the Fed’s actions trump all the other factors.

There is enough fundamental weakness worldwide that this assessment is reasonable. Growth appears to be slowing globally, inflation is still unusually low, and the European Central Bank (ECB) is on a path of more aggressive stimulus similar to the Fed’s bond buyback approach. All of this adds up to a continued run of the 10-year Treasury as the best deal in town.

In short, the market pressures don’t exist to raise interest rates, and all indications are that this situation will continue through at least the early part of 2015. The Fed has a firm grip on the situation, and until the Fed changes course, those who predict the end of the bull run in bonds are likely to continue to be frustrated.

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