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Bond Sell Off – Are We Finally Headed For The “Big One”?

Bond Sell Off
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Sanford and SonThose who remember the old 1970s sitcom Sanford and Son starring Redd Foxx may recall Fred Sanford’s chronic fake heart attacks. Whenever he came under stress or received a visit from a dreaded relative, he’d dramatically ramble around the living room, hold his chest and tell everyone this was the “big one.” No one ever believed him, watching him with either disgust or amusement as he stumbled about.

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The consistent calls for a dramatic bond sell off over the past half-decade are reminiscent of Fred Sanford’s farcical routine. Every time interest rates bump up by a couple dozen basis points, the bears repeat their incessant, seemingly desperate cries that the bond market is on the verge of a meltdown.

And here we go again. While it is true that rates have popped up a full half a point over the past month, which on a percentage basis is rather stunning, this actually only retraces us to levels we started the year at.

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So if you were unfortunate enough to have purchased a long-term bond a month ago, you’re likely looking at a sizable paper loss already. Of course the question now becomes whether this sell off continues and if a 3% 10-Year Treasury is our next near-term stop.

The economic outlook appears mixed. The dollar continues to strengthen, painting a big picture of domestic vibrancy. Yet U.S. multinationals, some of which now derive the vast majority of their revenue overseas, are hurt in such a scenario. Many mega-cap industrials as well as consumer products companies in their latest investor briefings or earnings conference calls are pointing to this fact.

Oil prices have been sliced in half over the past nine months, creating a notable tax cut for the middle class, consequently providing for increased savings as well as discretionary spending ability. However, some of the recently born boom towns of America’s heartland are turning to ghost towns as big oil capex declines amidst shrinking operating margins. Further, most big picture economic data including median wages, savings, as well as household net worth seem to be on a continued flatline. Inflation, however, seems in check for the time being.

The housing market seems to have bottomed with many markets around the country moving from buyer’s-advantage to seller’s-advantage situations. Still, home value appreciation on a wholesale level is erratic, with many buyers still sitting under water after purchasing at a very unfortunate high a decade ago. It could be argued that starting to raise rates could cause damage to the recovery – if we want to term it as such – that is occurring.

Popular sentiment is starting to gravitate to the conclusion that the Fed will tighten by 25 basis points come June. I’ve always been of the feel that the Fed should give the economy at least a year’s worth of non-stimulus before starting to ramp rates, but there appear many a few Fed governors that think it would be a mistake to wait.

From a bond investment perspective, if you believe that rates will rise slowly but steadily over the course of the next few years – then you want to keep duration as low as possible. If you think rates start to rise rapidly, then you probably don’t want to be buying bonds at all.

My personal view is that this isn’t the beginning of the “big one” as most bond bears envision it. My best guess is that rates will moderate once again near-term as we listen for more hawkish Fed cues. Even if the Fed does make a move, it is doubtful that we’ll see a quick ramp, and even less likely a 1994 scenario (300 basis point tightening in one year). So I think you continue to buy bonds for income purposes, but keep duration short- to medium-term.

Stocks may also figure into the mix. If equity markets take a near-term tumble on rate fears or Fed speculation, that, in all likelihood, would decrease the potential for a move in my opinion .

The “big one” may ultimately come and the bond market may have a heart attack, but for now I think you continue to view the most aggressive of bond bears as the Wall Street equivalent of Fred Sanford.

About the author: Adam Aloisi has over two decades of experience investing in equities, bonds, and real estate. He has worked as an analyst/journalist with SageOnline Inc., Multex.com, and Reuters and has been a contributor to Seeking Alpha for better than two years. He resides in Pennsylvania with his wife and two children. In his free time you may find him discussing politics, playing golf, browsing antique shops, or traveling.

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Adam Aloisi

Adam Aloisi has over two decades of experience investing in equities, bonds, and real estate. He has worked as an analyst/journalist with SageOnline Inc., Multex.com, and Reuters and has been a contributor to SeekingAlpha for better than two years. He resides in Pennsylvania with his wife and two children. In his free time you may find him discussing politics, playing golf, browsing antique shops, or traveling.

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