Tuesday, August 24, 2010

A Bond Bubble? Not Likely!

My thoughts on the bond bubble can be summarized in two words: "not likely".  When commentators have to tell you it is a bubble, it isn't a bubble.  Or to put this in another context, name me one market top in the last 10 years where the commentators on CNBC where not imploring their audience to buy at the top.  If anything, the commentators have this aura of incredulousness.  "How dare bonds head higher and stocks head lower.  Doesn't everyone know how undervalued equities are?"   When CNBC throws in the towel and when they utter those famous words - "is it to late to buy now?" - then we can consider the possibility of a bond bubble.

But let me clarify.  Bonds may not be a great investment 10 years down the road, but over the next 6 months, let's say, it is difficult to see the current trend ending.  Figure 1 is a weekly chart of the yield on the 30 year Treasury bond (symbol: $TYX.X) going back to 1987.  The indicator in the bottom panel is a weekly derivation of the Coppock curve.  The indicator (shown in red) is wrapped in trading bands that seeks to determine extremes over the prior 2 years of data.  This is the same Coppock curve that equity bulls cited back in March, 2009 to suggest that a turn in the equity market was for real. 

Figure 1. $TYX.X/ weekly

This is a very long term measure and it doesn't change direction too often or too quickly.  Currently, the indicator is headed downward and well above the zero line and the lower trading band (where one would expect a reversal).  In other words, once a trend is set in motion it tends to persist, and it appears that this trend has a ways to go before it ends.

Another way to look at this can be seen in figure 2, a weekly chart of the yield on the 30 year Treasury bond.  The proprietary indicator in the lower panel looks for market turns by assessing opening and closing prices relative to each other and past bars.  This is another long term indicator.  It was only 4 months ago (oval on the price chart) that this indicator suggested a top in yields was likely, and it would seem unlikely that this trend of lower yields has run its course so quickly.

Figure 2. $TYX.X/ weekly



Onlooker said...

Thanks for this different look at the bond market Guy. I agree that all the howling about the bond bubble is foolish and that actually the contrarian position here is to be in bonds.

As Dave Rosenberg puts it, there's a secular asset allocation shift in process with baby boomers taking off risk as they realize that they are woefully underfunded for retirement and just can't risk the stock market anymore.

At some point this whole thing will truly change direction, but only when stocks are again a long term buy, IMO. And that's going to be a long while. In the meantime I'm long gold and miners and the bond market through the TSP F fund which tracks the total bond market and has a rather short duration.

David Merkel said...

It is not true if a number of commentators call something a bubble, it is not a bubble. They used that logic with the housing bubble, when a few of us called it, and we got tut-tutted.

I don't think bonds are a bubble in the short run, but it is difficult to sustain low rates when government financing needs are so significant.

David Merkel said...

Wait, I forgot. Guy, how are you doing? I appreciated our time together at RealMoney, and hope you are doing well.

One more note, I have been counseling those who want to short the long bond to wait for a significant pullback, and then short. Fools try to oppose the momentum, particularly in bonds. Bonds are even more subject to momentum effects than equities.

Guy M. Lerner said...

Hi David

Thanks for my blog...I understand we cannot lump all commentators into a single basket; in this article, I was referring to the breathless, dumbfounded type of analysis you often get out of the CNBC hosts.

Agree with your short and long term comments on bonds --this is a consensus of two which is dangerous!

The trade of the decade --shorting the long bond --- will have to wait a while

I am doing fine; busy summer; traveled to Europe with children; we have a big family (life) event this fall; school starting; markets are tough; health is good (knock on wood).....staying positive

How about you?

Guy M. Lerner said...

Whoops....that was thanks for visiting my blog

Trader said...

Hey Guy, I know that everyone keep on saying there is no bond bubble (which I don't think we are there yet) and that everyone simply shifting money from equity to bond. So the only way for BOTH stock and bond fall is that if (and this is a BIG IF) USA get downgraded like Ireland? So maybe for now if the spread between SPX and TLT is so great, best thing to do is hold both SPXU and TBT? That way if US of A default or gets downgraded, both SPXU and TBT would do great while if not, the snap back between the spread would still favor this strategy?

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