By Michael A. Gayed
"Winning is habit. Unfortunately, so is losing." —Vince Lombardi
I've made the case here on Marketwatch that the odds were growing for a bond-market correction occurring prior to a stock-market one. Since Trump's election win, the move in bonds has been stunning, with yield spikes happening across the fixed-income landscape. One example? U.S. Five-Year Treasury yields in the past two weeks saw their largest two-week advance in history.
In truth, bond yields were starting to creep up even when everyone thought Clinton would win, so giving Mr. Trump credit for the bond breakdown isn't fully valid. However, there is no doubt that his surprise win did add significant fuel to the bond selloff fire on the belief that his policies will be inflationary. But perspective does matter here — yields are still incredibly low relative to history.
Inflation expectations have been creeping up accordingly. The question now is whether those expectations will ultimately be right, as the Fed likely will more aggressively hike rates to temper fiscal stimulus. If the shock in bonds has overshot, the key to determining when to leg back in will be reflation reality, as opposed to inflation hope.
When looking at the iShares TIPS Bond ETF /zigman2/quotes/200600110/composite TIP +0.64% relative to the iShares 7-10 Year Treasury Bond ETF /zigman2/quotes/202862654/composite IEF +0.58% , the gap up in inflation expectations may not actually hold. Yes, the uptrend remains in place, but I wouldn't be surprised at all to see disinflationary fears return on a Trump overshoot.
While debt arguably can be short-term inflationary, it tends to be more disinflationary over the long term the larger that debt load becomes. One must then question whether Trump will be inflationary given that the starting point for fiscal debt is as high as it currently is. The fly in the ointment for the belief that Trump will be inflationary is the strength in the U.S. dollar, which has surged in an incredible way. Inflation pressure should, in theory, result in a depreciating currency, not a surging one.
Clearly, there are a lot of unknowns here on what happens next, but the certainty with which everyone now believes Trump will be inflationary brings out the inner contrarian in me. And given that Trump's win was contrarian itself, your inner contrarian should be coming out, too. Trump may actually be the bond investor’s friend.
This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.