The Bond King Hears Growling
If the bond king is right, then Thursday’s close may have marked the beginning of the end.
In January, former PIMCO chief Bill Gross declared that if the yield on the benchmark 10-year U.S. Treasury breaks 2.6%, then the 30-year bull market in bonds is over. Yields rise as bond prices fall.
While the 10-year recently pierced that level on an intraday basis, coming just shy of 2.64% on Dec. 15, it didn’t actually close above the 2.6% threshold until Thursday, March 9, when it ended that day’s trading session at 2.605%. Prior to that, the 10-year hadn’t closed above 2.6% since September 2014.
In fact, this particular cycle saw the yield on the 10-year close at an all-time low of 1.358% last July. That was a very ominous sign indeed, since it suggested that the stealth war against deflation might have a few more years to go.
But Donald Trump’s unexpected victory last November seems to have reset expectations, at least temporarily. And the yield on the 10-year has jumped about 75 basis points since Election Day.
Three-quarters of a point may not sound like all that much to the average investor, but in the world of bond investing this is a hugely consequential move.
And the Trump Trade alone does not account for this action.
Last week, the U.S. Federal Reserve made a concerted effort to signal that it plans to hike rates by another quarter-point at its meeting next week. Indeed, traders are now betting that there’s a 100% probability of a rate increase on March 15, up from 40% at the end of February.
That would put the upper bound of the central bank’s benchmark federal funds rate at 1.0%. In December, the Fed’s forecasts implied three quarter-point rate hikes in 2017, which would mean the upper bound would hit 1.5% by the year’s end.
Of course, the Fed had expected to raise rates four times last year, but only managed to do so once, as the year came to an end. But the macro picture appears to be brightening, and the Fed seems to be getting much more serious about monetary tightening.
Although the Fed has vowed to raise rates gradually, some investors are betting on a slightly more hawkish outlook at next week’s meeting. Even our customarily cautious central bank still has the capacity to surprise.
Gloomy Gus Gets Happy
Meanwhile, the Fed’s equally profligate cousin, the European Central Bank (ECB), made market-moving news this week. ECB President Mario Draghi acknowledged that the Continent’s recovery means that it’s less likely rates will have to be cut again. He also said there’s no longer a “sense of urgency” behind the bank’s policymaking.
To the average person, these sound like relatively anodyne statements, but bond investors believe they augur eventual tightening, even though the ECB’s monetary policy remains extraordinarily accommodative.
In fact, this less gloomy outlook is likely what helped push the 10-year above 2.6% this week.
Even so, one close is not enough to trigger a bear market. Gross is looking for a sustained move above the level he’s identified.
During an interview with Bloomberg, Gross said, “If the 10-year breaks 2.6% on a weekly or on a monthly basis, because it’s so strong and so important in terms of technical analysis, that if and when it’s broken on the upside, it’s a bear market.”
When someone who used to manage the world’s largest mutual fund speaks, we listen. At the same time, there are other aspirants to the throne who have their own opinions. And they’re looking at 3.0% as the psychologically significant threshold.
Regardless, with rates still near historic lows, the path of least resistance is higher.
To that end, in the latest issue of Investing Daily’s Utility Forecaster, we identified 10 utilities that are ready for rising rates.