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‘Four More Years’ May Be Just the Ticket for Bonds

8 November 2012 in Trading Ideas

A drop of 313 points in the Dow Jones Industrial Average on the day after President Obama’s re-election victory last Tuesday did nothing to dispel the conventional wisdom touted by many pundits that an Obama win would be good for bonds, but bad for stocks.

That’s also the takeaway from a recent pre-election client survey by Barclays, which found most respondents believing in a more promising growth outlook with a Romney win, despite concerns about a likely tighter monetary policy stance. What’s more, 16% of respondents expected a post-Romney equity rally to be “deep and sustained.”

The Barclays survey results showed  that congressional deadlock and tax/regulatory impediments were the most cited concerns under an Obama victory, and although more investors would favor bonds over equities, they would choose both as investments over currency and commodities trades.

Interestingly, North American investors were substantially more concerned about the potential damage from business-unfriendly policies under a continuing Obama administration, while European investors were mainly concerned about congressional gridlock.

The Obama’s-good-for-bonds meme was also parroted by bond king Bill Gross, the co-chief investment officer at Pimco, who cautioned that the expectation makes more sense over the short term than the long term, which will be dominated by “structural headwinds.”

All of this thinking follows a line of logic that Obama would continue to allow the Federal Reserve’s “loose money” policies that have worked to keep interest rates near zero – and will continue to do so for years to come. The hope is that the low rates for long-term borrowing will encourage investing and hiring.

With that hope, however, comes the possibility that the dollar can weaken and inflation rates can rise, which could crimp long-term bond returns.

As Gross told CNBC, “that’s really what the Fed is trying to do, promote at least 2% inflation and perhaps 3% inflation – and 3% inflation is not a long-term bond investor’s friend.” The bond investor advised sticking with shorter-term debt investments.

On the other hand, Gross has been wrong before on long-term bond yields. He offered a mea culpa in 2011 after betting on a yield spike that never happened, and frankly, still hasn’t. The yield on 10-year Treasuries has been below 2% since August.

In addition, inflation hasn’t posed that much of a threat, yet. Last month, the core consumer price index, which excludes food and energy, rose just 0.1%, as many companies reported difficulty in raising prices with still-high unemployment and high fuel costs eating into paychecks.

 

Tags: bonds