Bonds, Stocks, Jobs & Yields

The 30-year bull market in bonds is fading, predicts Pimco’s Bill Gross, according to Bloomberg News. We’ve heard that one before. In fact, we’ve suspected no less for some time. In our newsletter and on these pages we’ve made the case that the path of least resistance for interest rates is probably up from here on out over the long haul. We continue to expect no less. But the same challenge lurks: timing.

Looking at the history of the benchmark 10-year Treasury yield, as we did two years ago, implied that the long decline in interest rates from the early 1980s to the present was near an end. But then things happened, namely, the Great Recession and the near-collapse of the global financial system. That introduced a potent new round of bullish momentum into bond prices, primarily government bonds. In turn, yields dropped sharply. The end was no longer near.

Fast forward to the waning days of March 2010 and we find ourselves again considering the end of the great bull market in bonds. We’re not alone. We may even be right in the sense that yields are set to begin an upward journey for an extended period, perhaps for years. But we remain humble in deciding when exactly the future begins.

Long-term rates are “finally on [the] verge of breaking out,” wrote Michael Kahn, co-manager of the EAS Genesis Fund, on yesterday. Perhaps, although the fate of rates is still tied to the pace and depth of the economic recovery. And on that front there’s still debate. But as we struggle to figure out what’s coming and when, it’s still all about jobs, or the lack thereof.

“The Fed doesn’t usually raise rates until 12 months after unemployment peaks,” Bob Whalen, principal at Tower Bridge Advisors, tells USA Today. “That means we’ll see an increase in rates sometime before the end of the year.”

As we wrote yesterday, this Friday’s update on nonfarm payrolls for March is widely expected to show a net gain in jobs. If so, that will be only the second month of net job creation since the recession began in December 2007. And, if the consensus outlook is correct, Friday’s news will be more than a token gain for the labor market.

It’s hard to gauge how relevant Friday’s update on jobs will be for the capital markets, but we’re guessing that the stakes are fairly high, one way or the other. A surprise on the upside could very well bring higher rates fairly quickly, delivering stinging losses to bonds. Stocks, meantime, would likely rally on the news, and perhaps deliver a fresh round of gains for some period after.

Of course, a disappointing jobs report on Friday would likely bring the opposite: another rally in Treasuries (accompanied by lower yields) and a fair degree of selling for equities. (Keep in mind too that the stock market will be closed on Friday, but the bond market will be open.)

We’re speculating, of course, and so all the usual caveats apply. Holding stocks and bonds still makes sense, as long as uncertainty lurks. The debate is always about how much to hold of this or that, and in what form. Asset allocation, in sum, is a perennial favorite point of discussion, not to mention an ongoing driver of results.

Meantime, this much is clear: the labor market may be at a crucial juncture. It’s been more than two years of virtually non-stop job losses. Is patience (and hope?) running thin?

The bond market is starting to smell a recovery of sorts for nonfarm payrolls. As such, perhaps it’s all quite cut and dry at this stage. Good economic news will be bad for bonds, and good for stocks. But if the labor market continues to falter, bonds will rise and stocks will stumble. Same old, same old, albeit with some potential complications, as’s Andrew Leonard explains:

A good job number will be bad for treasuries, because of fears that the Fed will tighten monetary policy by raising interest rates. Bad news for treasuries, theoretically, is bad news for the government, because borrowing costs will rise, thus placing even more pressure on government finances.

But one reason why the government is borrowing a lot of money, aside from the various left-over unfunded profligacies of the Bush administration, is to pay for the stimulus and the automatic increases in social welfare spending that are a direct function of the recession. A “much larger-than-expected gain in March jobs” would be the best possible signal that the economy might be about to turn the corner — which would lead, in turn, to lower social welfare spending, higher tax revenues, less pressure for additional stimulus, and, ultimately, a lower deficit.

In other words, a key contributor to bond investor nervousness is a robustly growing economy, but a robustly growing economy is exactly what we need to assuage bond investor nervousness.

It’s always the same… until it’s not. Friday will tell us what constitutes reality du jour.

About James Picerno 894 Articles

James Picerno is a financial journalist who has been writing about finance and investment theory for more than twenty years. He writes for trade magazines read by financial professionals and financial advisers.

Over the years, he’s written for the Wall Street Journal, Barron’s, Bloomberg, Dow Jones, Reuters.

Visit: The Capital Spectator

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