The Intense Demand for Poor Returns
As the haze of the holiday season rapidly rolls in, I thought a few images of what things really look like might do everyone a bit of good.
These charts show us just how risk-averse the average investor is becoming.
The top chart shows a long history of 10-year Treasury yields. They currently stand just a shade above their all-time low (after the last couple days of rates bouncing).
Demand for the "safety of Treasury bonds" is so intense and widespread that investors are willing to pay $56 for $1 worth of annual earnings, and never rising for a solid decade.
That's the inverse of the current 1.79% yield on 10-year Treasuries, otherwise known as their PE ratio.
The second chart is even more enlightening for the long-term view.
It compares the level of 5-year Treasury yields with the Core CPI inflation rate.
In other words, demand for bonds has been so intense that nominal yields have been bid down to very low levels relative to inflation.
That's directly illustrated in the second chart above, which shows the difference between nominal 5-year yields and core inflation.
The current level of ex-post real yields on 5-year Treasuries is as low as it has been in almost 40 years.
By this measure (i.e., the demand for the safety of bonds), risk aversion hasn't been this high in many decades.
And There's More...
The first chart (above) tells us that risk aversion can also be found easily in the overall equity market, as noted in the charts further above as well.
The current PE ratio of the forward-earnings of the S&P 500 is 17.3, which means that the earnings yield on stocks is 5.78%, a premium of 3.9% over 10-year Treasuries.
Now, make sure you don't miss this bit: Investors are crowding into line and happy to pay $56 to be assured of an annual return of $1 in Treasuries, but it only takes $17.30 for the expectation of $1 in equities.
It’s just another clear way to highlight just how risk averse this market is.
The last chart above shows unemployment claims are at rock-bottom lows.
Recent reports have suggested that industry is slowing their "expectation of hiring." That data can be seen here:
There has been a significant decline in the hiring intentions of service sector businesses.
I would argue that this chart is probably the most bearish chart I can think of right now.
Will there be no net new hiring in the future?
Of course not.
Three things change this (some sooner than many may think):
- We stop running fear-driving headlines 24-hours-a-day on every media outlet.
- Trump and Xi get their egos out of the way - and "shockingly" work to come away with a deal - that really is no different than before.
- We better find more people to fill jobs...once small business works hard to find people to fill jobs - and they fail due to lack of training or capacity - they find ways to become more efficient.
In a larger sense, while others around you go nuts over this stuff, it is helpful to recall these types of "global events" always change when Presidents change.
Last time it was healthcare, and wow that sure helped.
Likewise, be assured the next one will have their own "this is what I fight for" flag to bear.
Once this flag is buried in make-believe solutions, look for that blue line on the employment intentions chart to spike back up - and the US to then get along to doing what it always does: Winning, even if it gets a little ugly here and there along the way.
The key lessons in recent weeks?
The perception of insurmountable roadblocks from the Trade War are dissipating.
Sure, there is work ahead. But guess what? There is always work ahead.
Heck, the next problem is already here.
Didn't catch it?
Here it is: The market is in trouble because it is staring at new highs again.
As we peer into the final weeks of this decade, 10 years ago you could buy a 10-year Treasury Bond for a 3.43% yield.
Over that same period, dividends from the S&P 500 have expanded by over 140%!
That 10-year bond is still earning 3.43% and soon you will need to roll it over - at the very same capital level as 10 years ago.
But this time, you will get only 1.78% for the next decade.
That's what fear does; it illogically blinds the investor to what is happening around them.