Interesting piece on Bloomberg this morning. U.S. government bonds have now outperformed U.S. equities on a 30 year basis. This is the first time this has happened since the Civil War:
“The biggest bond gains in almost a decade have pushed returns on Treasuries above stocks over the past 30 years, the first time that’s happened since before the Civil War.
Fixed-income investments advanced 6.25 percent this year, almost triple the 2.18 percent rise in the Standard & Poor’s 500 Index through last week, according to Bank of America Merrill Lynch indexes. Debt markets are on track to return 7.63 percent this year, the most since 2002, the data show. Long-term government bonds have gained 11.5 percent a year on average over the past three decades, beating the 10.8 percent increase in the S&P 500, said Jim Bianco, president of Bianco Research in Chicago.”
The most interesting piece is with regards to government bonds and the inability of so many investors to predict this environment:
“The generation-long outperformance of bonds over stocks has been the biggest investment theme that everyone has just gotten plain wrong,” Bianco said in an Oct. 26 telephone interview. “It’s such an ingrained idea in everyone’s head that such low yields should be shunned in favor of stocks, that no one wants to disrupt the idea, never mind the fact that it has been off.”
This goes back to the piece on Daniel Kahneman and the misunderstandings of the market. Why did so many famous investors misinterpret the move in yields in the last year (more importantly, why did a schmuck like me get it right)? I believe it’s because they were working under a defunct convertible currency paradigm which led them to believe the bond market would impose its will on the U.S. government at some point (see here for what I believe is the accurate description of the monetary system). They made crucial mistakes by comparing us to Greece or believing that the USA has a true solvency constraint. Of course, they had it exactly wrong. The U.S. government, as the supplier of reserves to the banking system, imposes its will over the bond market.
So where do we go from here? My guess is that the next 30 years will not be nearly as kind to the bond market as the period we have just experienced. This doesn’t mean the bond market is in a bubble (as I’ve long stated, this is incorrect thinking), but these sort of unique outperformance data points again point to anomalies that are unlikely to recur. Does that mean bonds are set to crash? Or even that they’re a sell? That all depends on your particular portfolio needs. For the long-term investor who is using bond as a compliment to their equity exposure, a laddered bond portfolio is always appropriate.
For the more active investor, a different approach is utilized. I sold my government bond holdings one month ago into the huge ramp-up in prices. But this doesn’t mean I have necessarily turned bearish in the longer-term. Thus far, our cue has been the Fed. They are, after all, the bond markets master and while their dog (the bond market) might try to run around, they are ultimately on a fairly tight leash and the Fed will yank them back into their place when they want and where they want. Thus far, the Fed has been clear in its message. The bond bull will not end until 2013. For now, we should take them at their word. There is nothing in the core inflation data or the growth data that should be scaring the Fed. While an overbought environment might persist for some months, 2012 is likely to present itself with a bond buying opportunity. But of course, we’ll be keeping our ears peeled for a change in Fed language. The dog barks loud, but the man holding the leash is the one we should all be listening to.