Over the years well-chosen stocks typically provide a better return on investment than bonds. But, this is not always the case. In fact, now may be a time to buy bonds and sell your stocks. The Market published an interesting article about Warren Buffet’s favorite indicator and suggests that it may be time to sell stocks and time to buy bonds.
So what’s a fretting investor with rate hikes on the horizon to do? There’s the obvious choice: Ease up on the equity throttle and seek the security of the fixed-income market. That’s what Warren Buffett’s favorite valuation indicator seems to be saying (see “the chart” below).
We’re seeing some of that thirst for safety prop up Treasuriess lately. Even as China has cut back its holdings in U.S. debt by about $180 billion, according to Bloomberg, the market has barely budged. That’s because, from banks to mutual funds, there are plenty of buyers out there.
Buffet’s indicator is a comparison of total market cap to the gross national product. Going back decades this has been a good indicator for when it is time to buy bonds or stocks. Now, it would appear that the indicator is telling us it is time buy bonds.
So Why Did Treasuries Fall?
The Wall Street Journal reports a pullback of U.S. government bonds as stock rally.
U.S. Treasury bonds pulled back on Monday after a recent rally, as hopes of fresh monetary stimulus to support China’s slowing economy boosted investors’ appetites for riskier assets.
China’s stocks rallied after soft exports bolstered market expectations that Beijing would increase spending and continue to prop up the equity market by buying shares.
Looming new U.S. government debt sales also weighed down bond prices. A $24 billion sale of three-year Treasury notes is due Tuesday, followed by a $24 billion sale in 10-year notes Wednesday and $16 billion in 30-year bonds Thursday.
In recent trading, the yield on the benchmark 10-year Treasury note was 2.214%, compared with 2.173% on Friday, according to Tradeweb. Yields rise as prices fall.
Does this refute the wisdom that it is time to sell stocks and buy bonds? The fact is that the market cap to GNP indicator is a general indicator and an accurate one. It does not apply to which individual stocks you own but to the market in general. And even though bonds may have their issues they are a safe haven when the stocks market goes bust.
Lost Touch with Reality
Bloomberg Business says that the S&P 500 flouts history as it ‘breaks with bonds.”
As far as credit markets are concerned, U.S. stock investors have lost touch with reality.
That’s seen in the extra yield bond investors demand over Treasuries. The spread has expanded by 0.48 percentage point from a year ago, the most since 2012, even as the Standard & Poor’s 500 Index rallied.
While not without precedent, instances when anxiety in bonds didn’t seep into equities are rare. More than 70 percent of the time since 1996, as spreads widened as much as they have since April, the S&P 500 has fallen, with the average decline exceeding 10 percent, data compiled by Bloomberg show.
The average fall in stocks has been ten percent over the last fifty years whenever market cap goes too high in comparison to the GDP. One more voice has been added to the chorus that is singing, it is time to buy bonds.