Calls for the end of a more-than-three-decade bull market in bonds have been frequent of late. That has been particularly the case in the wake of President-elect Donald Trump’s victory over Hillary Clinton in November, which resulted in a bond selloff that pushed the yield on the benchmark 10-year Treasury note to around 2.60% in December from a low of 1.36% in July.
Though that downward spiral for bond prices (yields rise as bond prices fall) has abated somewhat, prominent bond investor Bill Gross says the 10-year yield remains the most important factor in financial markets.
The former head of Pimco and present manager of Janus Capital’s global unconstrained bond fund said if the yield on the 10-year note TMUBMUSD10Y, -1.53% decisively surpasses 2.60%, representing the top of the trend in yields, that will mark the end of the bull market in bonds, which has huge implications for a host of assets, including stocks. Gross’s warning comes in his latest missive to investors, with an excerpt below:
|And this is my only forecast for the 10-year in 2017. If 2.60% is broken on the upside—if yields move higher than 2.60%—a secular bear bond market has begun. Watch the 2.6% level. Much more important than Dow 20,000. Much more important than $60-a-barrel oil. Much more important that the Dollar/Euro parity at 1.00. It is the key to interest rate levels and perhaps stock price levels in 2017|
Is this more important than the Dow Jones Industrial Average DJIA, -0.03% hitting 20,000? Is it more important than the S&P 500 index SPX, +0.18% and the Nasdaq Composite Index COMP, +0.48% rising further into record territory and West Texas Intermediate crude-oil prices CLG7, +0.55% retaking $60 a barrel, a level it hasn’t seen in about 18 months? More influential than the U.S. dollar EURUSD, +0.5754% most recently at 1.05, possibly hitting parity with the euro?
Gross thinks so. After all, the benchmark bond influences nearly every corner of markets.
The shift in trend in bond yields is predicated on the belief that Trump’s policies, including increased fiscal spending and tax cuts among other proposals, will provide a boost to inflation—the enemy of long-term bonds because it erodes the value of fixed-interest payments. Gross notes that a widening divergence between the dovish monetary policies in Europe and those that are tilting toward normalization in the U.S., are expected to cap upside potential for the 10-year yield.
That is why Gross believes that the 2.60% top is important.
Moreover, a climb in yields has implications for stocks that have run-up over the past several months amid hope that Trump will make good on his promises. Higher yields can make the perceived safety of U.S. government bonds more attractive to buyers of comparatively risky stocks. Higher rates also can weigh on the economy by raising the cost of mortgages and boosting corporate borrowing costs.
Still, those rising yields might be manageable if it means that U.S. economic growth is humming along. And elevated rates are a boon for banks which borrow on a short-term basis and lend long-term. Gross thinks the growth trajectory remains unclear and that gross domestic product needs to touch an annual rate of 3% to help to boost corporate profits rather than the 2% rate GDP has hovered around over the past decade.
To be sure, not everyone believes that 2.60% is a magic demarcation point for Treasurys. Rival bond expert, Jeff Gundlach, who runs DoubleLine Capital, has said the benchmark 10-year yield needs to hit 3% to begin to challenge appetite for stocks and mark the end of a line of declining peaks in yields.