Category Archives: Investing Money

When Patience Disappears

Interest-rates-1790-2012My Comments: We’ve talked extensively about the likelihood of a market correction, if not a crash, coming in the near future, maybe this year. What many have not talked about are the implications of a rise in interest rates.

This is going to happen, given that they’ve been on a downward trend for twenty plus years and can’t go much lower, if at all. If you want folks like me who manage your money to anticipate these things to avoid chaos and help you make money, you should at least be aware of some of the variables. Here’s an articulate overview.

Commentary by Scott Minerd / February 13, 2015

Advance notice of the timing of a rate hike by the Federal Reserve may hinge on the removal of just one word, warns St. Louis Fed President Bullard.

Market observers keen to anticipate the Federal Reserve’s next move are wise to follow the trail of verbal breadcrumbs laid down by St. Louis Fed President James Bullard, a policymaker I hold in high regard. When Fed policy seems uncertain or even inert, Dr. Bullard’s public statements have historically been a Rosetta stone for deciphering the Fed’s next move.

For example, in July 2010, Bullard wrote in a report ominously titled “Seven Faces of the Peril” that it was evident the Fed’s first round of quantitative easing had not been sufficient to stimulate the economy. In the report, which was widely picked up by the financial press, Bullard warned about the specter of deflation in the U.S. economy, and that the U.S. was “closer to a Japanese-style outcome today than at any time in recent history.”

That summer, months ahead of any Fed decision to proceed with QE2, it was Bullard who began a drumbeat of steady public messages about the necessity of a second round of easing. By August, the Fed was not talking about whether it should implement a new round of QE, but how. In November 2010, the Fed announced its plan to buy $600 billion of Treasury securities by the end of the second quarter of 2011. If you followed Bullard, you were expecting it.

While Bullard is not a voting member of the Federal Open Market Committee this time around, I still view him as an important policy mouthpiece. That is why it was so interesting when he underscored Fed Chair Janet Yellen’s comments at a press conference following the committee’s Dec. 16-17 meeting in an interview with Bloomberg, saying that the disappearance of a specific word—“patient”— from the Fed’s statement may be code that a rate increase will come within the next two FOMC meetings. He reiterated the point in a subsequent speech, saying “I would take [“patient”] out to provide optionality for the following meeting…To have this kind of patient language is probably a little too strong given the way I see the data.” When Bullard, the man who told us months in advance to expect QE2, goes to great length to describe when the Fed will raise rates, I tend to pay attention.

While Bullard says the Fed could raise rates by June or July (and I wouldn’t rule that out), I think the likelihood is closer to September and that the central bank will likely raise rates twice this year. Whenever “lift off” actually occurs, we’ve long been anticipating that this day would come. It is a particularly interesting time for investors to consider increasing fixed-income exposure to high quality, floating-rate asset classes, such as leveraged loans and asset-backed securities. The good news is there is still time to prepare for when the Fed finally runs out of patience.

When Underperforming the S&P 500 Is a Good Thing

InvestMy Comments: I’ve spent time recently with clients talking about our mutual frustration with the performance of their investment portfolios over the past 18 months. They want their accounts to grow aggressively and I want them to grow aggressively, if for no other reason than it makes me look smart.

We can argue that the stock market is overdue for a crash, and that their respective portfolio managers are factoring that into the mix. The idea is to find ways to avoid the downturn since that alone makes it possible to make gains on the inevitable upturn.

Here is a perspective that will give you another way to look at this. I’m told patience is a virtue, but it’s still hard to come by.

Feb 1, 2015 | By Jeff Benjamin

As financial advisers roll through annual client reviews, many will face the task of having to explain how their portfolio strategies so badly lagged the 13.7% gain by the S&P 500 Index last year.

Fact is, a truly diversified investment portfolio should have returned less than 5% in 2014. It was that kind of year. Any adviser who generated returns close to the S&P was taking on way too much risk, and should probably be fired.

Blame the ever-expanding financial media or the increased awareness among investors, but there is no getting around the reality that clients have become programmed to dwell on the performance of a few high-profile benchmarks.

“Sure, the S&P 500 had a good 2014, and if you had all or most of your money invested in [that index], you did, too,” said Ed Butowsky, managing partner at Chapwood Capital Investment Management. “But what were you doing with most of your money in a single index?”

Most years, a globally diversified portfolio that spans multiple asset classes can hold its own relative to something like the S&P. But when a year like 2014 happens and the S&P essentially laps the field, financial advisers who have done their job might suddenly feel as if they have to make excuses for doing the right thing.

“Periods like 2014 are why people think they should just go buy the index,” said David Schneider, founder of Schneider Wealth Strategies. “Investors tend to fixate on the S&P because it’s the most famous index out there, and when it outperforms everything, it just makes the case for passive investing for all the wrong reasons,” he added. “People think they can just get rid of foreign stocks.”

While long-dated U.S. Treasuries emerged as a surprise outperformer last year with a 27.4% gain, most risk assets around the world didn’t even show up for the game.

Developed markets, as represented by the MSCI EAFE Index, fell 4.9% last year, and the MSCI Emerging Markets Index fell 2.2%.

SMALL CAP LAGGED

Midsize companies, as tracked by the Russell Midcap Index, generated a 13.2% gain last year and almost kept pace with the larger companies that make up the S&P 500. But the 4.9% gain by the Russell 2000 small-cap index shows that smaller companies were not really participating.

With everything packaged into a diversified portfolio, it would have been near impossible to generate anything eye-popping last year.

Applying allocations based on Morningstar Inc.’s five main target risk indexes, ranging from conservative to aggressive, the best performance last year would have been 5.23%, which includes a 1.51% decline during the second half of the year.

To get that full-year return would have required a 91% allocation to stocks, divided between 59% in U.S. stocks and 32% in foreign stocks.

That portfolio, Morningstar’s most aggressive, also included 4% in domestic bonds, 1% in foreign bonds and 4% in commodities, as an inflation hedge.

On the other end of the spectrum, the most conservative Morningstar portfolio had just an 18% allocation to stocks, including 13% domestic and 5% foreign. The 61% fixed-income weighting had 50.5% in domestic bonds and 10.5% in foreign bonds. The 10.5% inflation hedge included 2% in commodities and 8.5% in Treasury inflation-protected securities.

HISTORY LESSON

That portfolio gained just 3.38% last year but fell 0.73% during the second half of the year. “ History has taught us that at the beginnning of any 12-month period, stocks have as good a chance of gaining 44% as they do of losing 25%.” Mr. Butowsky said.

The onus is always on advisers to turn years like 2014 into teachable moments with clients, and a lot of advisers are doing exactly that.

Thomas Balcom, founder of 1650 Wealth Management, took a proactive approach in December by addressing the issue in his holiday greeting card message, which focused on “not putting all your eggs in one basket.”

“My clients were definitely surprised they weren’t up as much as the S&P, because everyone uses the S&P as their personal benchmark,” he said. “But we had things like commodity exposure and international stocks that were both down last year, and that doesn’t help when clients see the S&P reaching record highs.”

Veteran advisors recognize 2014 as a truly unique year for the global financial markets.

In 2013, for example, when the S&P gained 32.4%, developed international stocks gained 22.8%. But domestically, the S&P was outpaced by both mid- and small-cap indexes, meaning a diversified portfolio was riding on more than just the S&P’s positive numbers.

Prior to 2013, the S&P had outperformed international developed- and emerging-market stocks on only three other occasions since 2000. Domestically, the S&P has outperformed midcap and small-cap stocks only one other time since 2000, in 2011, with a 2.1% gain.

“It’s tough dealing with clients, because the S&P is the benchmark you can turn on the TV and hear about, and everyone wants to know why they aren’t experiencing the same returns as the S&P.” says Michael Baker, a partner at Vertex Capital Advisors.

“The S&P 500 really represents one asset class – large cap stocks,” he added. “And most investors only have about 15% allocated to large-cap stocks.”

7 Quick Points On Europe

europeMy Comments: My purpose with this post is to confuse you. Yes, that’s right, to confuse you. That’s because even though I claim to be a financial professional of almost 40 years duration, I’m confused. And I don’t want to feel alone.

This came across my inbox inside a newsfeed I look at daily which suggests it’s not that esoteric. The title itself lends it credibilty. That’s because most of us are interested in making our money grow and that Europe’s financial state over the next several months is critical. But it may just be an example of an economist talking to himself.

It’s not too long so I ask you to read it and let me know, if you can, just what it means. Thanks.

Ben Hunt, Epsilon Theory / Jan. 28, 2015

#1) Here are the most relevant recent notes for an Epsilon Theory perspective on the underlying political and market risks in Europe: “The Red King” (July 14, 2014) and “Now There’s Something You Don’t See Every Day, Chauncey” (Dec. 16, 2014).

#2) Markets reacted positively to last Thursday’s announcement because Draghi doubled the amount of QE that he leaked to the press on Wednesday. Financial media pegged QE at 600 billion euros on Wednesday and 1.2 trillion euros on Thursday. Once again, Draghi played the Narrative game like a maestro.

#3) This is NOT open-ended QE. Sorry, but the Narrative game doesn’t work like this. If you mention a target date (September 2016), then that becomes the Schelling focal point, no matter how much you try to walk that back by saying it’s open-ended.

#4) Risk-sharing, or the lack thereof, matters. Draghi won approval of a doubled QE target by minimizing the mutualization of QE risk among EU countries. 80% of the bond-buying will be done by national central banks, and Germany will only buy German government bonds, France will only buy French bonds, etc. That’s important for two reasons. First, if Italy or Spain goes off the rails, then the Bundesbank’s balance sheet isn’t immediately crippled.

Second, this is why German bonds are rallying just as hard (harder, really) than periphery bonds. It’s also why US bonds are rallying so hard, because you can’t maintain a huge spread between the only risk-free rates left in the world.

#5) Market complacency on Greece is a mistake. Not because Greece itself is a huge systemic threat, but because the same political dynamics in Greece are coming soon to Italy. Greece is Bear Stearns. Italy is Lehman.

#6) In tail-risk trades as in comedy, timing is everything. Even if you think that it’s an attractively asymmetric risk/reward profile to bet on a Euro crisis (and I do), this is a heavily negative carry trade. If you don’t know what the phrase “negative carry trade” means, then please don’t make this bet. If you do know what it means, then you know that you either have to play a lot of hands to make the odds work out for you (and the nature of systemic crises makes that impossible) or you have to be spot-on with your timing.

#7) In a fundamentals-driven market you need to look at fund flows; in a Narrative-driven market you need to look at Narrative flows. With Draghi’s announcement last Thursday, there is no longer a marginal provider of market-supportive monetary policy Narrative. Or to put this in game theoretic terms, the 2nd derivative of the Narrative of Central Bank Omnipotence just flipped negative. We’ve shifted from an accelerating Narrative flow to a decelerating Narrative flow, and that inflection point in profoundly important in game-playing. The long grey slide of the Entropic Ending begins.

Good Company, Bad Stock

retirement_roadMy Comments: This post is to remind you that stock market performance and the state of the economy do not follow the same track. From time to time there are close parallels, but they dance to a different drummer.

My arguments that the stock market is due for a crash are unrelated to the state of our economy. They are also unrelated to the name or party of the President in office at any given time. Obama cannot take credit for the current economic strength nor can G.W. Bush be blamed for the crash that happened in 2008. That I am also a Democrat is also irrelevant.

The stock market is going to crash again, and you need to be prepared if you have money exposed to what will be an unpleasant period. Period.

January 30, 2015 / Commentary by Scott Minerd

The U.S. economy is strong relative to other countries, but its equity valuations mean less upside potential for long-term investors than other areas of the world.

The U.S. economy is in the best shape out of any economy in the world, but it reminds me of a great business with a bad stock. Despite its underlying economic strength, I believe U.S. equity markets are likely to underperform those of less healthy economies in the long run. When I look around the world at economies that have many more problems than the United States, I see more upside potential for equity valuations and market performance in places like Europe, China and India.

Certainly, the United States is in a self-sustaining recovery—already the fifth-longest economic expansion since World War II. Despite noise this week around the 3.4% decline in durable goods orders, recent economic data releases continue to be positive: new home sales rose to a 6.5-year high and the Conference Board’s Consumer Confidence Index surged to 102.9 in January, the highest since August 2007. The U.S. economy remains the engine sustaining global growth, but when it comes to equity market valuations, a lot of the risk premia are out of the market.

One of my favorite macro-valuation tools is to compare total stock market capitalization to underlying gross domestic product (GDP). In the United States, this ratio is currently 134 percent, the highest level since the third quarter of 2003, the year this global comparison data became available. By the same measure, equity valuations in the euro zone, China and India are much lower. China’s equity market capitalization, for example, is 51 percent of its GDP, significantly below the previous high of 101 percent registered just prior to the global financial crisis.

As policymakers around the world introduce measures to reflate their economies and implement structural reforms to release growth potential, I wouldn’t be surprised to see Chinese, European, and Indian equities outperform U.S. stocks in the long run.

Switching to the bond market, I’ve been bullish since last fall that rates in the United States would decline to 2 percent or lower. In the near term, rates probably will fall further, but given that we’ve come more than 120 basis points since the beginning of January 2014 (as of yesterday’s close), it seems that the best part of the bull market in U.S. rates is over.

If it weren’t for quantitative easing in Europe and the deflationary shock coming out of oil, we would see U.S. rates meaningfully higher than they are today. With inflation likely to start picking up in the second half of the year, wage growth likely to start showing strength due to increases in minimum wage (20 states increased minimum wage effective Jan. 1), and the prospect that the Federal Reserve will probably increase rates at some point in the second half of the year, the vulnerability to rates rising will increase as the year plays out.

This will mean tough sledding for most of the bond market, but it’s not necessarily bad news for the U.S. economy. Even if rates rise modestly and a lot of the juice leaves the equity markets in 2015, the underlying economy is just fine and will continue to be just fine.

Foreign Markets May Offer More Growth Potential

U.S. stock market capitalization as a percent of GDP is at its highest level since the third quarter of 2003, the year this global comparison data became available. By the same measure, equity valuations in the euro zone, China and India appear much lower. As central banks in those countries implement policies to reflate their economies and structural reforms take hold, stock markets in those countries may present more attractive opportunities in the long run.

Germany Is Delusional To The Point Of Insanity

global investingMy Comments: Assertive headlines such as what you see here are usually outside my comfort zone. For one it implies a pathology that I’m not trained to comment on and two, Europe and European values are different from mine, given that I’ve lived here in the US for the past 65 years. (Warning: this post is LONG.)

That being said, what goes on in Europe does influence what happens to our markets, and since investing money is an expertise I have, then knowing and trying to understand this sort of thing is important to me. And perhaps to you.

The Mercenary Trader / Jan. 21, 2015

“It is as if it’s accepted that the euro area’s modus operandi is to clear things with Germany, and for the ECB to constrain its actions to what is best for Germany.” ~ Athanasios Orphanides, former member of the ECB governing council

Most of the eurozone is experiencing deflation. Even the countries who aren’t – Germany etc. – are well below the ECB’s official 2% inflation target.

This is dangerous because deflationary conditions can tip into recession… and depression… and political extremism born of civil unrest. Deflation – or rather the extreme results of such, in the aftermath of harsh slowdown – brought us the Nazis in the 1930s. Post-Weimar economic implosion, not currency erosion, enabled the political conditions for Hitler’s rise to power.
Need we say more?

Apart from political unrest, deflation is like having no fuel in the emergency flight tank.

A lot of people will say “what’s wrong with deflation,” e.g. why is it so bad?

It’s important to clarify there is a big difference between falling inflation levels (disinflation) and inflation falling below zero. Think of a plane that stalls out.
When an economy goes negative, the risk is that the plane fails to overcome the stall… and crashes before it can pull up. Deflation (as opposed to disinflation) can lead to compounding “downward spiral” impacts, not unlike gravity’s increasing pull on a nosediving airplane.

The German attitude toward inflation, and debt, is pathological (indicative of mental disorder).

Germany is paranoid of inflation on a pathological level. Germany is also pathologically allergic to debt. Consider, for example, that Germany as a country has serious infrastructure needs… and there is real risk that Germany’s economy will slow in future. Right now, German interest rates hover above zero (or even dip below it). This is a historic opportunity for “good” financing… for logical spending on real needs, financed by incredibly low-cost debt.

Yet Germany is so debt averse, they aren’t willing to borrow for the future – not even for themselves – even with rates in the zero to one percent range. That’s almost the equivalent of turning down free money, even when it is badly needed for repairs… even when it has obvious strategic use. That is not frugality as a virtue, it’s more like a miser complex worthy of therapy.

Worse still, Germany is delusional about its own economy and dangers.

Think about this: What happens to the German economy when China really and truly slows? And what happens to the German economy when Japan goes “next level” in its competitive devaluation plan?

China is slow-motion imploding. No matter what happens, China has to switch from an infrastructure led economy to a consumer led one. This is very bad news for Germany, one of the world’s largest exporters. As is the increasingly competitive currency stance of Japan. Bottom line: Germany’s present economic strength could easily evaporate… for strong reasons that make logical sense. And how much cushion would they have in that event? None…

Bottom line: Germany would rather slit its own throat, economically speaking, than allow for a rational approach to inflation and debt.

That is a deliberately harsh phrase, it’s true. But the writing is on the wall. Germany’s commitment to austerity is not just pathological, it is economically suicidal.
The entire eurozone is at risk… and Germany’s own economy is too… and the lessons of history speak loudly. Yet Germany continues to live in a bizarro dream world where saving money has been elevated to a fetish regardless of surrounding circumstances.

We don’t choose to pick on Germany. We have friends who are German… family members and loved ones with German roots. It simply “is what it is.” The pathologies of a country, to the degree they go separate ways from rationality, are leading to economic disaster (and who knows what in the aftermath).

There are questions as to whether German provisions will “neuter” euro QE.

Draghi and the European Central Bank will announce some kind of quantitative easing on Thursday (sic). There is no question of it now. If they tried for another stall – more “wait and see” – European equity markets would simply go into freefall. Investors would start betting on accelerated odds of euro break-up.

But it remains possible that the “shock and awe” of euro QE will be neutered by German demands. Via the FT: To appease QE’s German opponents, which include the chancellor Angela Merkel herself, Mr. Draghi is expected to say that bonds bought will remain with national central banks, so losses will not be spread among eurozone members. But other eurozone countries, as well as the International Monetary Fund, fear the concession could reduce QE’s effectiveness…

OF COURSE giving Germany what it wants would reduce euro QE effectiveness!

• Germany wants to reduce fiscal exposure to weaker eurozone members.
• But establishing a united support front is the whole idea in the first place!
• The house is on fire and liquidity crisis measures (firehoses) are needed…
• But Germany wants to avoid charges for the water…
• And make sure any fires are segregated away from itself…
• Thus increasing the odds the whole thing burns down.

The German justification for not wanting to participate is ridiculous.

The stance of Germany is essentially, “Why should we pay for these bums? Why should we create more risk exposure for ourselves? We are savers, they are spenders… why should we waste money on them?”

The answer is that Germany should have asked those questions SEVENTEEN YEARS AGO. Saying “Nein!” to an insanely stupid monetary union would have been very logical, and the best thing for all… circa 1998 before the euro actually launched! But now it is too late to avoid responsibility for actions.

What’s more, it is no longer a “moral” question… but a question of WHAT THE RISKS ARE.

This is the other amazing / maddening thing about the German stance. Germany still acts as if there is room to say “no” on moral grounds… when the final question is what will happen, not what is right or wrong. When a course of action is highly likely to invite DISASTER, the question of right or wrong has to be put aside…

Because of Germany, we don’t know how euro QE will come across… but we are willing to short more FEZ against our euro position. Our EURUSD position has a sort of partial absolute hedge in short European equities. If Germany throws a spanner in the QE works, and “Super Mario” disappoints, EURUSD could spike in a big short squeeze. But European Equities (NYSEARCA:FEZ) would fall hard in that instance. Conversely, if Draghi and the ECB come through in a big way, the reverse could occur – EURUSD goes into freefall, FEZ rockets higher. So they act as de facto hedges of each other…

Another scary thing… even if Draghi gets his “big bazooka” QE… what good will it do?
The other frightening thing to consider: It may be too little, too late for Europe no matter what size of QE they get. There is little point in lowering eurozone bond yields (already pressing zero). And there is little real hope in stimulating bank lending. So the true point of euro QE would be… what? Making the euro a hell of a lot weaker to stimulate exports one supposes. What else is QE supposed to do?

One argument is that, once euro QE starts, it never stops… until it goes nuclear…
Some argue it doesn’t really matter how much QE the ECB starts with… because QE just gets bigger from that point no matter what. We can’t be sure this is true. Germany might try to stop a “failed” QE program. Then again, if things get really ugly – e.g. if Germany falls into recession too – then maybe it keeps going and going…
And the ECB finally winds up going “nuclear,” taking a page from Japan. Understand this: There are plausible scenarios where the euro goes to 85 cents before all is said and done. That outcome would not be too hot for risk assets. (Hello understatement!)

Supply Shock and Awe

oil productionMy Comments: The driving economic story these days is about the price of oil. That the sudden and dramatic drop will have global repercussions is a given. The challenge for financial planners is how to help clients take advantage of these repercussions.

Right now, having a few hundred extra bucks to spend on something else or to save is very satisfying. But it will come to an end and the landscape will have changed. This has happened before and when it did, some people profited and others lost money. What will be your fate?

Commentary by Scott Minerd, Chairman of Investments and Global Chief Investment Officer, Guggenheim Partners – January 17, 2015

If the mid-80s’ supply-driven oil crisis is a guide, we should expect further declines and a prolonged period where oil prices remain depressed.

In just one week, oil prices skidded by more than 10 percent, sparking a sell-off in U.S. equities of 3.5 percent, a Treasury rally of more than 20 basis points, and global headlines of growth fears and tumult. Surprisingly, I’m not talking about this week. The week I’m referring to was in early December, and it is rather similar to the present oil price action and market response.

During the week of Dec. 8, oil fell 12.2 percent to around $58 a barrel, the yield on U.S. 10-year Treasuries approached 2 percent from around 2.30 percent, and equities declined over 3.5 percent. At that time, I published a commentary establishing a downside target for oil at $50 a barrel and said that the yield on the U.S. 10-year note would slip further to around 1.9 percent. Many of those predictions seemed pretty extreme at the time, but here we stand. At the time of writing, oil is around $48 per barrel, and the yield on U.S. 10-year Treasuries is 1.96 percent.

Technically speaking, after breaking through the support level of $50 a barrel, the measured move for oil is now $34 a barrel (based on the minimum downside potential price according to the rules used by market technicians). I believe we are in for a prolonged period where oil trades in the $40 to $50 range and possibly lower. In fact, I have the investment teams running stress tests based on oil trading at $25 a barrel for an extended period of time.

Twenty-five dollars a barrel? Isn’t that a bit extreme? I would guess, but so were our stress tests in 2008, which assumed short-term rates could go to zero for an extended period of time. The current bear market for oil is the result of a supply shock brought on by fracking. Based on the unwillingness of global oil producers to reduce production, the current supply shock will take a while to work its way through the system, and oil prices have yet to find a bottom. Better to evaluate the downside scenarios now than to be unprepared.

The difference between this bear market in black gold and the bear market of 2008 or the 1998 experience, which was associated with the Asian crisis, is that both of those were demand shocks. The best historical comparison to what we’re witnessing today in oil prices is actually the supply-shocked world of the mid-1980s.

The 1985-86 bear market in oil was the result of oversupply—too much oil was brought online relative to demand. During that period, prices declined more than 67 percent over four months or so. When oil prices started to rise again in April 1986, credit spreads started to tighten a few months later and within 12 months, the stock market was up over 20 percent. If history is any guide—and in this instance, I believe it may be—we are likely to see a similar situation play out today.

But investors beware in the near-term. Even at $48 per barrel, oil is still a falling knife—I believe there remains another significant downside move. If we hit the $34 a barrel price target, which I believe we could, that would be another 30 percent decline in oil prices. Typically, people would rightly characterize a 30 percent decline as a bear market. We’ve already had a decline of over 55 percent from the high, so we’ve already been in a bear market, but if we started over today we’re going to have another one.

With the development of fracking, we’ve had a huge increase in the supply of oil. By most estimates, fracking ceases to be profitable when oil prices hit somewhere in the neighborhood of $40 a barrel. Once the frackers stop drilling new wells, the following 24 months should see oil output gradually declining, allowing for prices to stabilize and ultimately rising to something viewed as normal above $60. Until supply begins to contract, oil will continue to languish. Between now and then, anything energy output-related should continue to suffer from weak oil prices.

Over the past 30 years, there have been six major declines in the price of oil (defined as a greater than 50 percent cumulative decline). The current decline now stands at around 55 percent, matching the magnitude of some of the worst historical oil crashes. However, most of the past declines have been due to faltering global demand, whereas the current slump is due to a glut of oil. Therefore, the best comparable decline is that of 1985-86, when a supply shock caused the West Texas Intermediate price to plunge by more than 67 percent over the course of four and a half months. With no near-term signs of supply letting up, oil prices could continue to fall.

Why the Bond Market Could Blow Up Any Day Now…

My Comments: The SKY IS FALLING! Actually, it’s not, but many of the headlines suggest it might be. This was published 3 months ago and as you probably know, the bond market has not yet blown up. Lots of things have changed but the bond market is just as boring today as it was then.

Just don’t begin to think it will NEVER BLOW UP. It will change, and you should hope that the change will be gradual. That gives all of us a chance to adjust and become adapted to a different world. Unfortunately, that’s not always how the markets work. Just remember, there are ways to profit from all this, and I can help you, but not with many guarantees.

Brad Johnson, 19SEP14

Since the recession, $900 billion has poured into the bond market because bonds were viewed as a safe place to put money.

But after multiple years of the Fed’s low-interest rate policies, it looks like there is only one direction for bonds to go…

DOWN.

Bonds lose value as interest rates rise.

You already know this… but most consumers don’t.

Already, the Fed is talking about raising interest rates in spring of 2015. Of course, news of an increase will be priced in long before rates actually rise.

What’s the actual impact of rising rates on the bond market?

Just look at the PIMCO Total Return Fund. It’s the largest bond fund in the world.

From May 1st to June 24th (2014), interest rates went up about 1%. At the same time, the Total Return Fund decreased by around 6%.

If a 1% increase in interest rates causes a 6% decline in the value of bonds, what would happen if interest rates went up 2%… 3%… or more?

Keep in mind, this is not a linear progression. At some point panic sets in and the bond market collapses as investors run for the doors. Bloomberg Businessweek reports:

“Wall Street firms are warning clients that if fund investors who view bonds as safe are hit with sudden losses, there could be something akin to a run on the bond market.

“The worry isn’t only that investors’ bottom lines would take a hit. It’s that a mass selloff could swamp the market, with demands for redemptions forcing fund managers to unload their bonds at rock-bottom prices. The ensuing losses would encourage even more investors to redeem, perpetuating the downward spiral.”