There’s something strangely appealing to me about a symmetrical chart. As an investor, I’m always looking to see what trends can tell me about the future. Is there method in the madness? …And how can I profit?
What follows is probably the most important chart for any investor today – the 10-year US treasury interest rate. It’s what investors demand in return for lending the US government their hard-earned cash for a period of 10 years.
Why is it so important? Well essentially, it’s this asset that determines the price of all other assets. If this chart takes off then – all other things being equal – just about every other asset will tumble.
So, what information can we glean from this wonderfully symmetrical chart? And should we be concerned about that little inflection you can see right at the end?
Source: St Louis Fed, MoneyWeek edits
Click to enlarge
The chart above pretty much plots our confidence in the system – that is, how much we investors trust the government. How much do we ask in compensation for lending to these guys?
Well as you can see, following the Second World War – the far left of the chart – belief in the US government was strong. The rate on the 10-year treasury was as low as it is today. The system was working…and working well.
From this point, it took some 27 years for successive governments to lose all faith.
The 70s were particularly unkind to the US. Both investors and the public lost confidence in the system and inflation spiralled. As you can see, rates on government bonds went through the roof as a result.
The situation was much the same in the UK. Higher rates led to recession (represented by the grey bars in the chart) and the outlook was grim.
Then in 1979, Paul Volcker took the reins at the US Fed. Together with Reagan’s government, he set about rebuilding faith in the system. Pursuing monetarist policies (a strong currency…the opposite of what we have today!) they began to restore confidence in money itself. No matter what your political opinion, the chart is pretty unequivocal…in the years that followed, investors were increasingly happy to lend to the government…and to do so at an ever-reducing rate.
Again, this downward slope on government yields was similar for much of the West. Triumph in the Cold War, the fall of socialism and growing faith in the capitalist system all helped to win over investors.
Academics even came out with hypotheses suggesting that lending to government was risk-free. As such, pension funds and insurers filled their boots. Rates on government bonds went down, governments borrowed with impunity…everyone was happy.
Well, following decades of falling yields on government bonds, the time finally came. A meltdown in the capital markets wiped trillions off the value of everything.
And as we all know – rather than risk shaking the faith – the central planners went about falsifying the yield curve. They printed more and more money to buy government bonds and force rates to stay low. That was, and is still, their plan.
Many players in the markets fear that the yield curve is about to break out and head north. Tapering talk has already started the process…you see, at the far right of the chart? Yields are rising!
But it is my contention that the yield curve cannot be allowed to be set loose. That would surely bring about a meltdown in the system. This is why I maintain my position that tapering is a con.
Of course there will be ramifications to all of this money printing. In fact I suspect that’s what’s spurring on the gold market right now.
Now, let’s look at the chart again. Our central planners are hardly likely to let the last 27 years of hard work go to waste, are they? The last five years have proved that. Then again, if you think these guys really are about to let go – and many investors do – you should place your bets accordingly. What does that mean? Sell up…and sit on cash.
As for me, however, I’m staying put. I’m aboard the planners’ rollercoaster. It’s going to be quite a ride, as these boys fight the markets at every turn trying to keep that damned yield curve from rising! But I just don’t believe that after decades of keeping rates low, central planners are going to throw in the towel that easily…so I’m staying in the stocks game.
Bengt Saelensminde,
Contributing Editor, Money Morning
Ed note: The above article was originally published in MoneyWeek.