Lacy Hunt and Van Hoisington kick off their second-quarter Review and Outlook with a contrarian view: "The secular low in bond yields has yet to be recorded." And as usual, they have their reasons; but unlike most of the blabbermouth economic talking heads out there, they aren't interested in endlessly parsing the fitful utterances of Ben Bernanke and friends. Rather, they zero in on the fundamental reasons why long-term Treasury yields have probably not hit their low. Those reasons fall, they say, into four categories: (a) diminished inflation pressures, (b) slowing GDP growth, (c) weakening consumer fundamentals, and (d) anti-growth monetary and fiscal policies.
Then Lacy and Van take us deep into the whys and wherefores of their thesis. Their reasoning and the evidence behind it make for compelling reading – but you may want to read twice.
Hoisington Investment Management Company (www.Hoisingtonmgt.com) is a registered investment advisor specializing in fixed-income portfolios for large institutional clients. Located in Austin, Texas, the firm has over $5 billion under management and is the sub-adviser of the Wasatch-Hoisington US Treasury Fund (WHOSX).
I write this note from Newport, Rhode Island. There is a reason that the rich and powerful built their summer mansions here a century ago. It is disarmingly beautiful. The weather gods have arranged a perfect day and evening, the waters are calm, and the sailboats are out in force. All is right with the world. The Defense Department Office of Net Assessment futures planning group I am with uses the facilities of the Naval War College here. we enjoy a charming hotel on Goat Island, surrounded by boats and tourists, in the evenings and experience the rather drastic contrast of a military facility beset by the rigors of sequestration during the day. Air conditioning is one of the casualties of Congressional inaction, it seems.
I am enjoyably assaulted by new ideas and issues each day, and often find myself very far afield from my usual intellectual haunts. We are tasked with developing outside the box future scenarios. Economics is just a small part. It is good to stretch the mind.
Have a great week, and read what Lacy writes carefully. Everybody is rushing to the other side of the bond boat, trying to catch a stiff breeze that could just turn on the sailors. Be careful out there.
Your feeling woefully but happily inadequate analyst,
John Mauldin, Editor
Outside the Box
Hoisington Investment Management – Quarterly Review and Outlook, Second Quarter 2013By Lacy Hunt, PhD, and Van Hoisington
Lower Long Term RatesThe secular low in bond yields has yet to be recorded. This assessment for a continuing pattern of lower yields in the quarters ahead is clearly a minority view, as the recent selling of all types of bond products attest. The rise in long term yields over the last several months was accelerated by the recent Federal Reserve announcement that it would be “tapering” its purchases of Treasury and mortgage-backed securities. This has convinced many bond market participants that the low in long rates is in the past. The Treasury bond market’s short term fluctuations are a function of many factors, but its primary and most fundamental determinate is attitudes toward current and future inflation. From that perspective, the outlook for long term Treasury yields to fall is most favorable in light of: a) diminished inflation pressures; b) slowing GDP growth; c) weakening consumer fundamentals; and d) anti-growth monetary and fiscal policies.
InflationSustained higher inflation is, and has always been, a prerequisite for sustained increases in long term interest rates. Inflation’s role in determining the level of long term rates was quantified by Irving Fisher 83 years ago (Theory of Interest, 1930) with the Fisher equation. It states that long term rates are the sum of inflation expectations and the real rate. This proposition has been reconfirmed in numerous sophisticated statistical studies and can also be empirically observed by comparing the Treasury bond yield to the inflation rate (Chart 1). On an annual basis, the Treasury bond yield and the inflation rate have moved in the same direction in 80% of the years since 1954.
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