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Why Bond Buyers Now Face Extraordinary Risk

Insights into a “hugely dangerous bet” that is being placed on interest rates

by Bob Stokes
Updated: July 07, 2020

Investors' enthusiasm for bonds has been historically high for much of 2020.

Let's go back to this Feb. 14 news item (CNBC):

Investors are flocking to bond funds in record numbers

... investors see low interest rates as a continued plus for fixed income.

The same enthusiasm was reflected in this June 30 Wall Street Journal quote:

Investors bought record amounts of new bonds from U.S. companies -- including those with junk credit ratings -- even as defaults and ratings downgrades surged.

So, investors are so eager to own bonds that they are clearly ignoring "default" risk, and as that Feb. 14 news quote suggests, interest rate risk as well.

Of course, interest rate risk means that if rates (or yields) rise, bond prices fall -- given that yields and prices move inversely to each other.

And, rising yields are not hard to imagine given that they are currently very low. Of course, yields could stay exceptionally low for a time, but trend changes always occur in financial markets, sooner or later.

Indeed, our just-published July Elliott Wave Financial Forecast provides more insight into the extraordinary risk that bond buyers face. Here's a chart and commentary:

BondsRecordRisk

The declining line in blue on this chart is the Bloomberg Barclays U.S. Aggregate Corporate Bond Yield, which is at a record low 2.15%. The rising line in red is the Bloomberg Barclays U.S. Aggregate Corporate Duration, which is at a record high 8.6. Bond duration is a measure of how sensitive prices are to a move in interest rates. A long duration relative to low rates indicates a greater risk of a price decline when interest rates rise. Bond investors are now making a hugely dangerous bet that interest rates will stay low forever. It is dangerous because, as the chart shows, there has never been a time in history when there is a greater risk of loss during a trend of rising rates.

The new Elliott Wave Financial Forecast goes on to mention alternative portfolio ideas for bond buyers. One of them is T-bills.

The other is a particular type of "note," which you can read about in the new issue.

Plus, don't miss the Special Section at the very top of the July Financial Forecast which mainly focuses on why investors are "clamoring to get in on rising stock prices."

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