By: Matt Schifrin
If you haven’t done so already you should read Bill Gross‘ latest Investment Outlook, found here: PIMCO | Investment Outlook – Two-Bits, Four-Bits, Six-Bits, a Dollar.
Besides riffing on how he once stiffed a waitress with a negative tip, he also gets into the more serious matter of the looming end of QEII on June 30, 2011. He calls that day D-Day for investors and here’s why.
“…10-year Treasury yields, while volatile, typically mimic nominal GDP growth and by that standard are 150 basis points too low, (2) real 5-year Treasury interest rates over a century’s time have averaged 1½% and now rest at a negative 0.15%! (3) Fed funds policy rates for the past 40 years have averaged 75 basis points less than nominal GDP and now rest at 475 basis points under that historical waterline.
As a counter, one would argue (and I would partially agree) that the U.S. and indeed developed global economies must keep yields artificially low for some time if post Lehman healing is to take place. But that of course is the point. By eliminating QE II, the Fed would be ripping a Band-Aid off a partially healed scab. Ouch! 25 basis point policy rates for an “extended period of time” may not be enough to entice arbitrage Treasury buyers, nor bond fund asset allocators to reenter a Treasury market at today’s artificially low yields. Yields may have to go higher, maybe even much higher to attract buying interest.”
In short Gross makes the point that the Fed has been buying up 70% of the Treasury debt issued and now that this is over, they will be hard pressed to find enough T-bond buyers in the private market. Result: interest rates will soar and the current bull market’s legs will be taken out.
Get out of long bonds and for stocks, be very selective.
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