I am often asked by the investors in my funds, "When will markets finally start paying attention to the signs of weak economic growth?" I tell them that the consensus answer is that bull markets only end when the Fed starts aggressively raising interest rates.
I also tell them that when interest rates are at zero, as they have been for the last seven years, the normal answer may not apply. In the meantime, stocks keep hitting new record highs while bonds and commodities are telling a very different story about the state of the economy…
Low Yields Have Grounded Any Flight to Safety
In February, the S&P 500 enjoyed its best performance since October 2011 despite the worst economic data in over a year. With the exception of employment-related numbers – which are both backward-looking and overstated – economic reports were nothing short of horrible. Even the labor markets are far from healthy at U6, the broadest measure of unemployment, remains above 11%. But virtually every measure of manufacturing, construction and consumer activity was extremely disappointing and came in below expectations in February.
So why do stocks keep going up? The most common answer given by experts is that equities remain the only game in town for investors. The Fed and other central banks have destroyed bonds as alternatives by lowering interest rates to zero.
Only a masochist (or a central bank or private sector bank investing for non-economic reasons) would lend money to governments for 10 years or longer at rates of 2% of less. And corporate bonds are hardly more attractive, with the yield-to-worst on the Barclays Investment Grade Bond Index at a paltry 2.87% and the yield-to-worst on the Barclays High Yield Bond Index at a measly 5.91%. Yields on BB bonds are 4.48%, B-rated bond yields at 6.03% and CCC-rated bond yields are 9.24%. Take it from a bond market veteran – these yields come nowhere close to rewarding investors for the risks of holding these instruments in any environment, but in a world drowning in debt, they are nothing more than certificates of confiscation.
Comparing This Market to the Internet Bubble Is Rationalizing
About the Author
Prominent money manager. Has built top-ranked credit and hedge funds, managed billions for institutional and high-net-worth clients. 29-year career.