Are U.S. Treasuries undervalued? That might sound like an absurd question if you consider: the 10-year Note has a yield of not far above 2% and the 30-year bond is yielding just less than 3%; the Federal Reserve (Fed) is in the middle of a tightening cycle that involves both raising interest rates and soon, perhaps, curtailing reinvestment of its massive balance sheet. Even if yields returned to their early 2014 levels, they would be 90 basis points (bps) higher on 10-year notes and 115 bps higher on 30-year bonds.
So, can a case be made that U.S. Treasuries are undervalued? First, compared to their equivalent in other developed economies, U.S. Treasuries remain among the highest yielding, especially among AAA-composite rated bonds. Second, despite an eight-year equity bull market, U.S. Treasuries have performed decently for investors, and have exhibited negative correlations to equity markets during that time. Third, as equities continue to rise, they are decoupling from corporate earnings, which might signal either a period of higher volatility or eventually lead to a sharp correction/bear market that could generate a massive flight to quality towards Treasuries. Fourth, corporate bonds are also trading splendidly and represent a less attractive alternative than in the past. Lastly, it is not just U.S. Treasuries that might represent good value: options on U.S. Treasuries are trading near historic lows and could also be in for a bull market if volatility increases.
by Erik Norland via AllFeaturedReports RSS