July 9, 2021
By Steve Blumenthal
“While the talking heads on bubblevision seem to think
that the move down in yields is borderline ridiculous,
what they fail to take into account is the price signal that
the bond market is sending us.”
– David Rosenberg,
President, Chief Economist, and Strategist, Rosenberg Research
Rosie wakes early, gathers his thoughts on the market, and sends them to subscribers via his Breakfast with Dave newsletter. He and Dr. Lacy Hunt presented at Mauldin’s SIC2021, and both share the view that deflation will win the day over inflation (with debt and demographics being the bad actors)–thus, interest rates are going to go lower.
Lacy put it this way in his Q1 “Quarterly Review and Outlook:”
Contrary to the conventional wisdom, disinflation is more likely than accelerating inflation. Since prices deflated in the second quarter of 2020, the annual inflation rate will move transitorily higher.
Once these base effects are exhausted, cyclical, structural, and monetary considerations suggest that the inflation rate will moderate lower by year end and will undershoot the Fed Reserve’s target of 2%. The inflationary psychosis that has gripped the bond market will fade away in the face of such persistent disinflation.
That seems to be the message from the bond market in the last 10 days.
Every Friday morning, I say to myself, “Keep the letter short and to the point.” Unfortunately, too many times I fail. I get caught up in the research I’ve found interesting during the week and my mind and fingers take over. This week, I’m going to do my best to hit that mark and share a few “quick takes.”
So grab that coffee, find your favorite chair, and, I promise… no need to reheat the coffee. Here we go:
- What the Treasury Bond Market Is Telling Us About Inflation
- Individual Investors Expect 17.50% Real Returns in 2021 and 14.50% Real Returns in the Long Run (NATIXIS Survey of 8,550 individual investors) – Not Going to Happen
- Trade Signals – Bonds on the Run
- Personal Section – Another Reason for Caution and Trips to NYC, Boston, and Maine
What the Treasury Bond Market Is Telling Us About Inflation
10-Year Treasury Weekly MACD: Buy Signal – Bullish on High-Grade Corporate and Treasury Notes and Bonds
The Fed controls the short end of Treasury interest rates but has far less control over longer-term interest rates such as the 10-year Treasury. Thus, the 10-year and the 30-year Treasury activity can give us a feel for how the world’s investors are positioning (real buying and selling) and what that means for inflation.
Interest rates generally rise during periods of inflation and fall during periods of disinflation. With rates declining, the bond market is telling us inflation in the short-term appears to be transitory. I’m in the camp of making sure market technicals (price behavior) match the fundamentals. Watch what they do… not what they say.
The chart below plots weekly interest rates. Signals occur when the black line crosses above or below the red line. Note the early May 2021 buy signal. Rates peaked at 1.765% in May and declined to 1.293% yesterday (July 8, 2021). Remember that when interest rates decline, bond prices rise.
One of my favorite bond market indicators is the Zweig Bond Model. It too signaled “buy” back in May.
Finally, here is a look at Vanguard’s Long-term Treasury Bond ETF–a tool you can use to trade. EDV has gained about 12% since the May signal (green upward pointing arrow):
Individual Investors Expect 17.50% Real Returns in 2021 and 14.50% Real Returns in the Long Run (NATIXIS Survey of 8,550 individual investors) – Not Going to Happen
Shiller P/E
Source: Shiller
In my book, On My Radar: Navigating Stock Market Cycles, I shared a chart on page 93 that showed subsequent returns based on starting Shiller P/E. When P/E was between five and 13, subsequent 10-year real returns annualized about 10.5%. When P/E was between 13 and 15, subsequent real returns were about 8% per year. When it was between 20 to 48, subsequent real returns were less than 2%.
Gurufocus zeroes in a bit more and calculates “implied future annual return” to be -4.8%. I didn’t check their math, but one look at the above Shiller P/E chart, which goes back to the 1870s and shows a current P/E of 38.23–the second highest in history–should raise the hair on your arms. Anyway, here’s a look at the chart from Gurufocus:
I appreciate the NATIXIS survey. It’s a pulse on what investors are thinking, and may I say they have hit the Fed spiked punch bowl a bit too hard. Investors expecting 17.50% real returns in 2021 and 14.50% per year is insane. This is EUPHORIA. Buckle up and be prepared for the outstanding opportunity that will present when it resets.
Trade Signals – Bonds on the Run
July 7, 2021
Posted each Wednesday, Trade Signals looks at several of my favorite equity market, investor sentiment, fixed income, economic, recession, and gold market indicators.
For new readers – Trade Signals is organized into three sections:
- Market Commentary
- Trade Signals — Dashboard of Indicators
- Charts with Explanations
Market Commentary
Notable this week:
Well, the undertaker drew a heavy sigh
Seeing no one else had come
And a bell was ringing in the village square
For the rabbits on the run
Band on the run, band on the run
And the jailer man and sailor Sam
Were searching everyone
For the band on the run, band on the run
For the band on the run
– “Band on the Run” by Paul McCartney and Wings
The Zweig Bond Model did it again, as did the other fixed indicators you’ll find below. The jailer man and sailor Sam are searching everyone… for long-term inflation. The bond market is signaling otherwise. Bonds Are On A Run!
The weight of evidence remains positive for stocks as well. Margin debt is at record high, prime brokers are providing 5x leverage to SPAC hedge fund investors and valuations are off the charts, while caution is advised, you’ll find this week’s dashboard is mostly green.
Click HERE to go to the balance of Wednesday’s Trade Signals post.
Not a recommendation for you to buy or sell any security. For information purposes only. Please talk with your advisor about needs, goals, time horizon and risk tolerances.
Personal Note – Another Reason for Caution and Trips to NYC, Boston, and Maine
Leverage serves the market well on the way up, but it always blows up the party in the end. A few weeks ago, we looked at valuations, trend, and debt, and in June 25th’s OMR post–titled, “One Kick 10,000 Times”—we saw just how high (crazy high) margin debt has gotten.
Ned Davis Research has a tagline, “See the Signals.” With so many indicators, their work is heaven for financial quant geeks, but the reality is none of those indicators are perfect. They’re good, but not perfect.
I asked for permission to share the next chart with you. It caught my eye this week, as I’m uber focused on early signs of shifts in trend. If the market wasn’t overvalued, overleveraged, and full of euphoria (as witnessed in terms of leverage and casino-like gambling on Robinhood), I’d say, “Party on Garth, party on Wayne.” But not with our current conditions.
The following chart looks at the number of new stock offerings and plots the data all the way back to 1969. There are two categories: too much supply (many offerings) and relatively few new stock offerings. The indicator looks for a change in the trend in new offerings.
Keep this in the back of your mind as you read the chart: When there are few initial public offerings (IPOs), it indicates that investors are cautious and that, generally speaking, smart-money insiders are bullish. These are good starting conditions. When there is too much supply—many IPOs—it indicates that speculation is pervasive. At such times, insiders are generally bearish (as is the case today with record insider selling). These are bad starting conditions. What we are looking for is a reversal in trend from either extreme–and that’s what just fired the first sell signal since early 2008.
Here’s how to read the chart:
- When the deviation from trend rises above and then falls below the upper green dotted line (bottom section), it’s a “sell” signal.
- When the deviation from trend falls below and then rises above the lower green dotted line (bottom section), it’s a “buy” signal.
- Past “sell” signals are circled.
- 86% of trades were profitable–not perfect but keep your lights on!
On the personal front, travel to New York City is up next. On Monday, I’ll be in the city for several meetings and return home late that night. A trip to Boston follows at month’s end, with fingers crossed for some golf at one of the greatest courses on the planet with good friend Dr. C.
Susan and I are planning a trip to the coast of Maine August 7–12, and we are in need of recommendations (including must-visit restaurants). Please send me an email if you have any ideas for us. Then, Susan will fly home and I’ll head further north to David Kotok’s annual Camp Kotok fishing get-together August 12–15. We fish, and our guides prepare what we’ve caught at a nearby campsite for lunch. We fish again in the afternoons on Maine’s beautiful Grand Lake Stream. Oh, and we drink some wine. 🙂
After a few minutes of downtime, it’s on to dinner. David organizes panels and topics to debate in the evening, and creates and encourages a safe place for healthy discourse–both public and private. It all happens in a room filled with economists, money managers, and retired Fed officials. (A big hat tip to partner John Mauldin for first inviting me as his guest some years ago and for the passion David pours into each year’s event. Forever grateful.)
Hope you’ve got a vacation on the books too.
Wishing you the very best,
Steve
Stephen B. Blumenthal
Executive Chairman & CIO
CMG Capital Management Group, Inc.
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Stephen Blumenthal founded CMG Capital Management Group in 1992 and serves today as its Executive Chairman and CIO. Steve authors a free weekly e-letter entitled, “On My Radar.” Steve shares his views on macroeconomic research, valuations, portfolio construction, asset allocation and risk management.
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