I’ve discussed the extremely low bond yields before, yields on the 10-year are up today, yielding around 1.5%. There aren’t many voices out there that are calling for further increases in bond prices. Many of these people are looking at the yield in a vacuum and aren’t viewing them as a safe haven to store assets rather than cash, which is the way many large institutions view the low-yielding instruments.
One manager, Robert Kessler, who Barron’s calls the ‘real bond king’ still feels yields could drop further.
Kessler, whose clients who consist of high net-worth individuals and global institutions, sees no reason Treasury yields should not fall further, generating robust total returns. Moreover, he sees the current low level of yields as a clear warning sign to stock bulls.
In a wide-ranging telephone interview, Kessler sounded themes on which he has expounded before in previous conversations. Most particularly, Treasury yields are headed where he had expected all along — well before Greece and the rest of Europe began to exert downward pressure on prices of risky assets and yields on risk-free assets such as Treasuries and German bunds.
Simply put, Kessler says Treasury yields are the product of the Federal Reserve’s policy stance — which has been to peg the overnight federal-funds rate at virtually zero — and inflation, which is nowhere in sight with the retreat in Commodity Research Bureau index and key prices such as copper.
Based on historical norms, the 10-year Treasury note would trade at 75-100 basis points (0.75 to one percentage point) above the fed-funds rate target. So a 1.20% 10-year T-note would be in line with past cycles. So, too, would a 30-year bond yielding 1.50%-1.60%, well below 2.66% currently.
But these times are different from history with deleveraging throughout the world economy. That means shrinking balance sheets as assets are shed and, Kessler contends, inevitable deflation. If anything, that would point to even lower yields.
Is Kessler right? He’s probably forgotten more than I could ever know about the bond market, so I’m poorly equipped to give a proper rebuttal. One thing I do know, is markets, no matter equity or bonds, tend to overshoot fair value (whatever ‘fair value’ is suppose to mean). So yes, it’s possible for bonds to rise from here. But it’s important to recognize this is just one man’s opinion, and it takes much more than that to make a market.
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