Oh, Gross! Welcome Back

Bill Tatro
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Posted: Apr 12, 2013 12:01 AM

It appears that bond guru Bill Gross has once again become bullish on long-dated Treasury debt.  In my view, this stunning announcement ranks right up there with Gross’s acknowledgment that his 2011 short position on U.S. Treasuries was, in fact, wrong. 

However, this most recent bullish posture by Bill Gross reminds me of another very memorable moment in history.  After peaking at an astronomical 19.1% in 1981, I’ll never forget when the federal funds rate eventually dropped below 10% in November 1984.  To witness the rate go single-digit brought every mortgage lender, bond seller, and TV pundit out of the woodwork    — it was definitely a free-for-all for the ages. 

“Sell your bonds,” we were told.  “The bubble must burst soon; after all, rates have declined 48%, how much lower can they go,” it was touted.  “Refinance your house; you may never have another opportunity to lock-in a single-digit mortgage rate again,” so said the advertisement of the day.  Yes, it all seems so long ago.

Yet, now that the federal funds rate is basically nonexistent and the yield on 10-year U.S. Treasuries is hovering around 2%, the same chatter is once again being heard:  “A bond bubble of major proportion,” “Re-finance now and don’t be sorry, “Only the insane buy U.S. Treasuries.”   

Fortunately (or unfortunately for that matter), the rest of the world clearly understands that “zero” and “negative” are real numbers, and everything is relative.  Should you wish to take a chance and put a real risk premium on your bond buying, go Italian and get 4.28% for a 10-year — a much greater yield than current U.S. paper.  Nevertheless, each day dreadful headlines continue to emerge from Italy regarding government uncertainties, high unemployment, banking fraud, and other financial scandals — all of which tend to create a tremendous sense of skepticism that would dictate much higher bond yields. 

Eliminate the risk altogether, and buy a two-year Swiss bond and actually receive a negative yield.  In other words, pay to store your money.  Undeniably, the lack of yield is the real cost of comfort. 

As the Japanese are being driven by their prime minister’s penchant to create inflation, there appears to be a port in the storm.  It’s a bond position that creates stability, yet actually pays something for the purchase.  Compared to the Japanese 10-year bond yield of 0.63%, U.S. 10-year Treasuries look downright inviting at almost three-times the return.  In addition, a decline of 40 basis points could create as much as a 15% to 20% capital gain.  All in all, when judged against the rest of the world, the benchmark U.S. 10-year note is a fairly attractive place to be. 

Welcome back, Bill Gross.  It’s been lonely without you.