As I mentioned yesterday, one of the reasons why I loved the Rosenberg/Bernstein at Merrill Lynch was because they often balanced one another out. Rosenberg being the bear and Bernstein being the bull. In this morning’s note David Rosenberg had some comments on Bernstein’s 11 themes for 2011:
“First off, Rich Bernstein and I are not only former colleagues and collaborators but we are also good friends. Tons of mutual respect. Rich’s Eleven Themes for 2011 is a must read even if our opinions differ. The one view that stands out in the article is that the long bond yield is going to rise 150bps, meaning it would approach the 6% threshold. Rich’s reasoning is that bond yields typically go up in the mid-part of the cycle even if growth comes in weaker than expected. The problem is not just about the growth rate in real GDP but also the extent to which the output is closing and how far the economy is operating below potential, if at all. Quite often by this mid-part of the cycle, the economy is fast heading towards full employment, credit creation is ramped up and inflation is rising to the surface and the pressures building.
Looking at historical post-WWII cycles is a bit dangerous in today’s heavily drugged-up post-bubble economy. There is far too much excess capacity to be worried about inflation as far as 2011 is concerned, and since that, along with Fed policy, have the highest correlations with the direction of long-term bond yields, we doubt that (periodic spasms aside) we will come anywhere close to such a backup in yields.
Let’s see what the economy looked like the last time the long bond yield was anywhere close to 6%, which was back in the summer of 2000:
- Total consumer inflation was running at 3.7% YoY back in the summer of 2000 (now, it is at 1.2%).
- Core inflation (which excludes food and energy) was 2.5% (0.6% now).
- YoY employment growth was 2.2% (+0.6% now).
- YoY GDP growth was 5.4% (3.2% now).
- The capacity utilization (CAPU) rate was 82.0% (74.8% now).
- The unemployment rate was 4.0% (9.8% now).
- House prices were up 13% YoY and bank lending was running at an +11% YoY rate.”
I tend to agree with Rosenberg here. The Fed has made it very clear that they are leaving rates low for an extended period. The last thing they want to see in this environment is long bonds surging over 4% or 5% and you can bet that Bernanke will do everything in his power to keep rates from getting too high.
Source: Gluskin Sheff